For release: March 7, 2002
Contact: Charles B. Henderson, (314) 444-8311

The High-Tech Investment Boom and Economic Growth in the '90s: Accounting for Quality

ST. LOUIS -- High-technology goods were largely responsible for the surge in investment spending during the 1990s. And, although economic statistics were constructed to account for improvements in the quality of those high-tech goods, they may have distorted the real effect of high-tech investment on the nation's economic growth trends, says an economist with the Federal Reserve Bank of St. Louis.

The economist is Michael R. Pakko, who surveyed the link between economic growth and the high-tech investment boom of the 1990s. His research appears in the March/April issue of Review, the bimonthly journal of business and economic issues published by the St. Louis Fed.

Using official statistics from the U.S. Bureau of Economic Analysis, Pakko found that nominal investment expenditures for computers and peripheral equipment, software and communications equipment --ICT, for short -- rose to account for over one-third of total business fixed investment by 2000, up from only one-fifth a decade earlier.

"This surge in ICT spending was, in turn, a notable feature of the investment boom and rapid economic growth of the 1990s," said Pakko. "From 1995 through 2000, business fixed investment accounted for nearly 32 percent of the total growth of real GDP. In contrast, investment spending had accounted for only 15 percent of growth during the 1970s and 1980s."

Although ICT spending clearly accelerated in the last decade, Pakko notes that much of the data on high-tech investment goods have been adjusted to reflect rapid improvement in quality. So, an important question remains: "Is the higher economic growth associated with high-tech investment an artifact of the methodology used to construct recent data, or does it truly represent a departure from the past?"

Pakko said the one key element to answering the question is the issue of "unmeasured" quality change. "Some economists," he said, "contend that a significant amount of quality change goes unmeasured in the official statistics, particularly in cases where quality improvement is more incremental."

Pakko cited economist Robert Gordon, who undertook to quantify the extent of this unmeasured quality change, noting that Gordon drew data from a variety of sources, including special industry studies, Consumer Reports -- even the Sears catalog -- to compile a data set of more than 25,000 price observations.

"The bottom line of Gordon's study is that the official data understated the true growth rate of investments in spending by nearly 3 percentage points over the 1947-83 period," said Pakko. "This has two implications: First, if unmeasured quality improvement caused investment to be understated in the past, more recent growth trends, which do account for a great deal of quality change, might not be so extraordinary after all. Second, accounting for possible unmeasured quality improvement in the non-ICT components of investment spending should have the effect of diluting the contribution of ICT growth to overall investment and output growth in the recent data. "

As a result, Pakko constructed alternative measures of investment spending that he adjusted for a change in quality. His quality-adjusted data show that the contribution of high-tech investment to total investment in the 1990s was significantly higher than would be expected from previous trends, exceeding the forecasted paths.

At the same time, however, Pakko concluded, "As ICT technologies have become a more important component of investment spending, they have had the effect of increasing the volatility of investment. In that regard, the sharp decline in investment spending we've seen in 2001 suggests a continuation of this highly variable growth pattern."

Subscriptions to Review are available by calling (314) 444-8809.

With branches in Little Rock, Louisville and Memphis, the Federal Reserve Bank of St. Louis serves the Eighth Federal Reserve District, which includes all of Arkansas, eastern Missouri, southern Indiana, southern Illinois, western Kentucky, western Tennessee and northern Mississippi. In addition to serving as a bank for depository institutions and the U.S. government, each Reserve Bank monitors economic conditions in the District, participates in formulating monetary policy, and supervises state-chartered member banks and bank holding companies to foster safety and soundness of the District's banking and financial institutions and to protect the credit rights of consumers.

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