Changes transforming economy

By Ken Gibson

JAKARTA (JP): Indonesia has clearly caught the 'dot com flu' -- new startups are cropping up every day; U.S. dot coms have arrived in Jakarta; and a host of companies are busily trying to put an 'e-spin' on their Old Economy businesses.

Is there really money to be made in the New Economy? When will the bubble burst? What does it mean for Indonesia? What will happen to those in the Old Economy?

A global management consultancy firm, McKinsey and Company, has recently completed a research on the underlying fundamentals of the New Economy. It concluded that beneath all the hype and publicity, there are in fact powerful economic changes afoot that will permanently transform the way economies and businesses function.

The research focused on three major forces at work in the global economy -- digitization, regulatory liberalization, and capital mobility -- and studied their potential effects on industrial cost structures around the world.

It grouped all existing costs into two types: transformation costs and interaction costs. The former are the physical costs of transforming inputs to outputs -- turning metal into cars, leather into shoes, etc.

The latter are the costs of exchanging information, coordinating activities, monitoring, and so on. Interaction costs, the research revealed, account for roughly 50 percent of total costs in most industries, and as much as 70 percent in industries such as banking.

Where the Industrial Revolution brought about a dramatic reduction in transformation costs, the New Economy is rapidly slashing interaction costs.

In fact, the study concluded that the three forces at work (digitization, deregulation, and capital mobility) will boost interaction-cost productivity by at least three times.

In some cases, interaction costs should eventually approach zero, as the Internet and other enablers proliferate. Falling interaction costs will change the economic world beyond recognition: customers will reach new suppliers despite geographic distances; companies will penetrate untapped markets; and intermediaries-distributors, merchants, agents and others will be decimated as buyers and sellers do their own match- making.

These changes are occurring much faster than most people anticipated. Whole industries are being reshaped everyday -- even Old Economy industries, such as autos and pharmaceuticals.

For example, Ford, GM and Daimler/Chrysler recently announced that they will launch a joint component procurement business, while Johnson & Johnson, Baxter and three other large medical companies have just joined together in marketing to hospitals.

Only a few years ago, such cooperation between arch rivals was unthinkable.

A major reason for this phenomenon is that in the New Economy the winner takes all. In the stock market the evidence is already overwhelming: in every e-commerce category, the leaders command far higher valuations than their competitors.

Look at Amazon versus Barnes & Noble, or Ebay, Yahoo! and AOL versus their peers. The reason is that in the New Economy scale is everything. If you are the first and largest, your brand is substantially more valuable and technology costs are spread over more customers. Moreover, you create a larger network of customers who then interact with each other and make your site even more attractive.

These changes are fast arriving in Asia and Indonesia is no exception. Indonesian companies need to understand how the New Economy will affect their business -- how supplies can be purchased, how products can be sold, and how businesses will coordinate with each other.

Indonesian exporters need to move particularly quickly, given their direct ties to the changing global economy. For example, should Indonesian paper companies use the procurement services of Chemdex.com? Should they sell through paperexchange.com? Should they form an industry consortium?

Even domestically oriented businesses must beware. Stockbrokers will soon face global and Asian competition from companies like Schwab and E-TRADE, while the travel agent business could be destroyed by companies like Travelocity.

Fortunately, the challenges are accompanied by breathtaking opportunities. Companies that understand the New Economy can profit enormously by building new businesses.

International examples of innovative business building abound: witness BBC's success in becoming a global content provider or the achievement of Telefonica-the Spanish telecommunications company-in establishing a successful ISP and portal service across South America. Similar success stories can be written in Indonesia.

For consumer-oriented businesses, a major obstacle is the small size of Indonesia's on-line community. However, a number of creative solutions are being devised to boost Internet access through cable TV, mobile telephone and broadband satellite access. These projects promise to dramatically alter the face of Internet usage in Indonesia within a few years.

In fact, we believe that Internet technology can actually be a catalyst for Indonesia's economic recovery: a vibrant and dynamic e-commerce community will inevitably make Indonesian businesses more efficient and offer new benefits to consumers.

If these new technologies are exploited thoughtfully, there can be tremendous social benefits for all Indonesians. Take one extreme example: why not put broadband Internet kiosks in village schoolrooms and hospitals?

Such initiatives could allow Indonesia to revolutionize its education and health care systems and 'leapfrog' over other countries. Hopefully, government policy will embrace the New Economy and harness the extraordinary power offered by emerging technologies. If so, the real winners would be the people of Indonesia.

The writer is president director of PT McKinsey Indonesia. The article is adapted from his presentation at a recent conference jointly organized by PT McKinsey Indonesia, PT IBM Indonesia, and the Indonesian Institute for Management Development (IPMI).