Pricing in the New Economy: Lessons from the Period of the E-Commerce Bubble

ABSTRACT The New Economy increased U.S productivity sharply after 1995. The latest economics literature on the topic, which generally forecasts a secure future for the information economy, is reviewed. The down side of the New Economy were the strategies, especially the pricing strategies of NASDAQ and virtual firms. The critique of Michael Porter regarding the non-strategic price-cutting common to those firms is reviewed. Traditional models by Sweezy and Baumol, which focus on pricing in imperfectly competitive industries, are applied to provide a cogent theory as to why those firms made mistakes that were once viewed as common for neophyte industries. JEL: A1, D4, L1, M2 Keywords: New economy; Information economy; Pricing strategy; Transactions costs; Imperfect competition; Revenue maximization I. INTRODUCTION Use of the term "New Economy" to describe the information economy was probably unfortunate. If the New Economy is a lasting phenomenon, the term must ultimately become an anachronism. But more serious is the misconception that the New Economy perished with the bursting of the NASDAQ bubble and the arrival of recession. It is true that to some people the New Economy was the belief that recessions had been permanently vanquished and that stock prices, which had ultimately become bubble prices, represented legitimate possibilities for future wealth, i.e., the actual present value of firms. Serious economists saw the New Economy as much more, including the following three elements. First, it entailed the revival in productivity growth in the United States beginning in 1995. Second, it included developments in the information and communications technologies that rendered all sectors of the economy more productive. Finally, it had reference to the necessary institutional and organizational changes that permitted firms to accommodate themselves to the exigencies of the digital economy--these required the reorganization of the firm, coping with industrial competition unlike that of preceding eras, and changes so sweeping that many thought erroneously that the basic rules of economics had changed. The recession of 2001 proved the belief that recessions had been permanently overcome to be misguided. But none of the other propositions were really changed by the recession. Those who tend to doubt that the New Economy was merely chimerical or transitory have not found substantiation from the literature, since specialists have provided evidence to the contrary. We need only to refer briefly to the substantive literature that insists that the information economy is alive and well, the recession notwithstanding. This article is motivated by the view of that literature, viz., that information and communications technologies (ICT) have irrevocably changed the US economy. Section II will review the most significant econometric findings related to the upward shift in productivity attributed to the New Economy and the evidence that it is not defunct. This will be done only briefly to motivate the assertion that pricing issues are important for the information economy, which continues. Section III will ask what went wrong with the New Economy. That information is important for the US economy, which continues in some areas to be on the cutting edge of global development. It is also important for other advanced economies interested in avoiding the pitfalls encountered by some US firms in the bubble period of the late 1990s. Section IV discusses the issue of the non-strategic pricing practices mentioned in Section III. The pricing discussion will address the imperfectly competitive conditions that permit economists to enjoy the process of abstraction, albeit at a level of only modest sophistication. II. THE NEW INFORMATION ECONOMY CONTINUES The development of the information economy has been driven by a rapid decline in the prices of computers and other information and communications equipment. …