E X E C U T I V E F O R U M

The Soul of the

Economy Network

B Y K E V I N K E L L Y

he forces now transforming our business and social institutions-the acceler- ation of knowledge and technological change, the emergence of global com- T petitors, the breakdown of traditional hierarchical systems-find their full

expression in the new network economy. That network economy is marked by two simple attributes. It is, by definition, a system of many points connected to many other points. It is also the product of a world where there wdl soon be a tiny sllicon chip in everything we manufacture.

Five years ago, when Rodney Brooks at the MIT Media Lab suggested that chips would so011 become so cheap that they would be found in every door, the idea seemed laughable. But, sure enough, when you stay at a hotel today you probably have a key card that fits into a computer in your door.You can find shoes, lamps, desks, and bathtubs comparably equipped. And Bill Gates’s Xanadu-like dream house, whlch can recognize guests and pipe their favorite music to whatever room they enter, gives new meaning to the term home electronics. The transformation of everyday goods and services is happening very quickly.

As the number and variety of products on the market increases, we are beginning to electronically connect those products. At some point soon, those two growth curves will intersect, and everything we manufacture will be wired into the network. The paradox is that the thngs being connected aren’t very smart-and don’t have to be. They are communicating via wireless or infrared signals, with very simple messages. They’re saying, “I’m here,” or “I’m on,” or “I was last used two days ago.”

The great force that’s operating in the network economy is called dtrlnb power-the ability to take lots of dumb things and connect them to create something very smart. That is also the force of evolution, of ecology; it is the force in our brains-a lot of

Copvnghr 1997 Kevin KcU)

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dumb neurons that cannot construct a thought indi- vidually but when linked can think. In other words, smart is many dumb things interconnected. That’s where we’re headed in the network economy. We’re giving the manufactured world the ability to converse, and those conversations-between us and our machines and among the machines themselves-are adding new value to the economy.

Communication, Not Computation

ronically, the rise of the network econ- I omy means that the age of computers is over. All the effects that we’re likely to see in our society due to a stand-alone com- puter on a desk have already happened. Computers have sped up our lives a bit, they have made symbol and imaging pro- cessing easier, but those changes have fun- damentally run their course. What we’re now seeing is a communications revolu- tion, and communication is the foundation of culture. So forget about computers; we’re now shaking the underpinnings of society because we’re reinventing the ways we communicate with one another and with the world around us.

When people talk about the Net on which the network economy is based, they often think of something like America Online or CompuServe, or the tangled mass of the World Wide Web-people sitting in front of keyboards typ- ing away at one other. But that’s not what the Net really is. The Net is every cash register in the world, every weather satellite, every medical-record instru- ment, all sending data to a mainframe computer, or to another machine. It’s all the objects we manufacture talkmg to each other. That is the network side of the

network economy; the crucial, economic side is that anything that can hold an electronic charge can hold a fiscal charge. We have constructed a new matrix in which economic and financial information is flowing through essentially everything.

Think of a grocery store where every item is bar coded, and attached or embedded in each item is a sil- icon chip. Imagine a head of lettuce with a bar-coded

tag. A small readout on the shelf shows the price of that lettuce-and the number is changing while you watch. Companies could adjust the price of their products in real time, depending on the day’s, the mo- ment’s demand. That’s called yield munuge- ment and is already an art (some say a black art) in the airline industry, for in- stance, with carriers manipulating the price of a seat depending on how close to flight time that seat is being sold. Prices vary to maximize capacity because an un- sold seat is worth nothing.

The pervasive flow of economic and financial information will make this com- monplace. All goods and services will be tied to a ubiquitous electronic currency- what I call e-money. The world is swim- ming with information, and money is basically a form of information. Con- sumers and producers are constantly bid-

ding on resources, and every transaction is captured in a computational cycle. Network economics-those nodes of relationships and interconnections-is the driving force of our times. And with networks, five new dynamics will shape the future of every organi- zation-exponential technological growth, increasing returns, compounded value, fax effects, and wealth from the free. Together they are upending our most basic social and economic assumptions.

Exponential Growth. Linear growth was the model for the machine age. Small change, small effect; large change, large effect. That is how clocks, gears, and assembly lines work. Exponential growth is the model for biology and population growth. Change moves very quickly in these worlds-and in the network economy There’s little correlation between disturbances and results. Organizations have never worked this way, but people have an intuitive sense about such workings because of the world of nature and our own biology.

Increasing Returns. The law of increasing returns, or pos- itive feedback loops, is a fashonable topic in economics today It applies the snowball effect to commerce; it says, simply, “them that’s got gets more.” For example, Shcon Val- ley keeps attracting more start- m

which means you can make the engine smaller still. The more you take away, the less you need.You quickly gain efficiency based on the compounded value of decreas- ing size. The same thing happens with microchips; the smaller the size, the greater the power of the device.

The Fax Effect. For the millions of dollars that the Japanese used to develop fax technology, the first fax machine that rolled off the assembly line was worth nothmg. The second fax machine was worth something because it could communicate with the first. And each additional fax machme sold increases the value of all the fax machmes before it. Likewise, the first e-mail account had zero value, but each new e-mail account raises the

value of all the other accounts. People who have e-mail know that-that’s why they’re always

up companies, and the more that come, the more that will come. Early leads are a signifi- cant factor in compoundmg that advantage. So rather than oper- ating in a world of scarcity, the

The world is swimming with information, and

money is basically aform of information.

asking for your e-mail address. This is a hallmark of the net- work economy. We become evangelists for the technology because things increase in value the more plentiful they are.

network economy makes possi- ble a world of plenitude and abundance.

Compound Klue. Everybody knows the power of com- pound interest; it is the beauty of savings and invest- ment. Compound value is a similar force in the microchip world. The smaller things get, the smaller they can get. One example we may soon see in our streets is the hypercar-a supercompact vehicle ex- pected to get hundreds of miles per gallon, made pri- marily with composite fibers. It is designed around the fact that most of the energy consumed by a car is used to move the car, not the passenger. By decreasing the mass of the car, you can make the engine smaller. And since most of the mass of the car is the engine, if you make that smaller, you need less energy to drive it,

However, the fax effect is also subject to exponential growth;

thngs in the network economy increase in value by the square of their plenitude. In the industrial economy, if I’m a window manufacturer with four customers, and I grow to seven customers, I’ll not quite double my business. But in the network economy, if I’m in the telecommunications business with four telephone cus- tomers and I grow to seven customers, they’ll generate 49 times as much business. And that exponential dif- ference increases tremendously as the numbers get even larger. That is what makes the network economy such a powerful creator of wealth.

Wealthfrom the Free. If things increase in value the more plentiful they are, then the way to make something really

valuable is to give it away. We see some notable exam- ples of businesses doing exactly that-Netscape, Micro- soft, and Yahoo all offered h-ee Internet software to build a customer base, a market value, a reputation, and a tech- nical standard. That strategy is so well established in the new network economy that there’s now a need to be not just first to market, but fiee first to market. It’s a way to develop a company’s presence and identity.

The Limits of Efficiency

s we have seen in the network economy, goods A and services initially given for free can become extremely valuable. That has huge implications for other sec- tors of the economy as well.

again, there’s a useful evolutionary model called the adaptive landscape. Simply put, this model pictures a theoretical pyramid with the fittest organism at the top and the least adapted at the bottom. Over time an organism or an organization traces an upward path as it climbs the peak toward increased fitness.

In the industrial world, it was relatively easy to plan your ascent. If you were a steel company, you could see where you should be headmg.You could move toward increased efiiciency and begin to climb that peak. However, the new network economy presents a dlfferent topography, called a rugged landscape. The problem is that the high-

est peak-maximum adapta- tion-is not clearly evident; you may be climbing a local peak

Think about who does free well: young people and non-

Ifthings increase in value profit organizations. I have a the more plentiful they

are, then the way to make theory about why the young are always coming up with the good ideas: it’s because they

passion and do something, not

something really valuable is to give it away.

waste time. They follow their

loolung for a payoff, just doing ll

what’s interesting. For instance, if you really want to learn how to use the Internet for research, it takes 50 hours of wasting time, clicking through worthless Web sites, before you can become expert at using the Web. Like- wise, mastering video games or multimedia; they’re a tremendous waster of time, but are a powerful source of innovation and new ideas.

I call the pursuit of such activities a-jiciency. It’s not that they’re inefficient, but that efficiency is not an impor- tant measure of their value. Sometimes the young are efficient, sometimes not. Sometimes nonprofit organi- zations are efficient, sometimes not. Ths is not the cri- terion by which they should be judged. In biology,

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surrounded by many higher peaks. In fact, the landscape is not only rugged but constantly changing. New peaks arise very quickly. The mountain you are climbing-or sitting atop-can suddenly become a molehill.

New Paths to Fitness

he new turbulent land- T scape changes every aspect of work. Peter Drucker has said that in the industrial economy, your chief task as a worker was to do the job right, to do it efficiently, to find out how to do it better. The chief task in the network economy, however, is not to do the job right but to do the right job-to make sure you’re climbing the right peak. Searching the landscape, discovering your position, is the job of the young, the visionary, and those not con- cerned about efficiency as such.

It’s one thing, for instance, to imagine a new destina- tion, and it’s often easy to think it will be a quick trip.

Yet, invariably, it becomes a long and difficult crossing. The problem for most organizations is that if you are stuck on a local peak and have determined that a higher peak looms just over the horizon, the only way to get there is to devolve, let go of what you are doing well, and head down your little mountain. And there is almost no organization that can do that well. The entire organization is built around the idea of pushing things uphill, becoming efficient and adapting to a particular terrain. For the organization to go backwards almost defies the genetic code.

Voluntary organizations can be a model of such adapt- ability for business. Without the weight of the profit motive, they can more readily go back down, search out, experiment, and let go of their old model. So we wdl see more and more for-profits asso-

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phor for the social interactions of the new workplace. We have to thLnk not of personal desktops, but of shared space. In the new organization we find increasingly h-ag- mented work environments. People work at the client’s office, at home, in the car. Remote working and tele- commuting are important strategies-though many organizations are finding that nobody wants to work either at home or at the office fdl time. Thus, we’re see- ing organizations trying to accommodate people who want to split their time between the two.

Organizational behavior is changing in deeper ways as well. As companies become more diffuse and their relationships more complicated, individual employees are assuming multiple identities. They represent their

organization, their professional discipline, their personal aspira- tions. Their interactions with

ciating in a symbiotic way with Voluntary Organizations clients and colleagues are grow- nonprofits to help them acheve greater a-fficiency. For-profit can be a model of ing in complexity at the same

time that their autonomy is organizations will need such help because they are by nature

adaptability for business. I

increasing. All of which means

- honed to be efficient; a-ffi- ciency is not somethng they do well. Yes, nonprofits can be run like businesses, when appropriate. However, organizational fitness in the net- work economy requires you to be messy, dynamic, a- fficient. Some may think their organization is like that already, but few really are. They are more often rigid and static. And in the network economy, the price of poor adaptation is, increasingly, extinction.

Tools for the New Economy

he network economy is creating new metaphors for T organizational strategy, identity, and relationship to the marketplace. It is also transforming models of behav- ior inside the organization. For instance, the multiplayer games now being played on-line are becoming a meta-

that, more than ever, we have to hire for attitude and train for skills-attitude about learning,

about exploring, about innovation.

By understanding the dynamics of the network econ- omy, leaders can help their organizations set new rules, invent new tools, and respond to its new demands. Organizations in the network economy need to be run like an ecology of clans-diverse groups of employees, customers, and partners linked for a common pur- pose-just as the Net operates as an ecology of inter- connected agents. Too many leaders still think these changes apply just to computers and communication, that they have little effect on the rest of the economy. That’s a serious mistake. The network economy is rewriting the rules for all of us. Every organization will have to learn to play the game.