THE BEAR'S
LAIR Silicon Valley spark
fades By Martin Hutchinson
All major industries go through an
innovation life cycle. They provide a
fundamentally new product or service when they
first appear, then as their use becomes more
widespread their changes to the world become even
more fundamental. Later on however, while capital
flows to them in vast profusion, their innovations
become more marginal, although there is still
money to be made.
Finally, generally after
a monumental shakeout with many bankruptcies and
much capital destroyed, they settle into maturity,
in which innovations are minor, their products
commoditized and they grow only in line with the
global economy, while innovation shifts to some
other sector. Silicon Valley, the
source of growth and
inspiration for the last four decades, is about to
shift into this last phase. The transition will be
painful.
We saw this cycle first with the
advent of steam power. The first steam engines,
invented by Thomas Savery in 1698 and Thomas
Newcomen in 1712, were used primarily to pump
water out of mines and were very inefficient. Then
the separate condenser of James Watt's 1774 engine
improved the engines' efficiency enough to widen
their use, while the higher boiler pressure of
Richard Trevithick's 1804 engine allowed it to
power a locomotive.
The second,
world-changing period of steam power came after
Watt's and Trevithick's innovations, which led to
steam-powered mills and railways, the first being
the Stockton-Darlington line of 1825. There
followed a period of immense innovation and
prosperity, with both factories and railroads
appearing in immense profusion, absorbing gigantic
amounts of capital and powering stock market booms
in 1825, 1836 and 1845. The culmination of this
period was the opening of the US transcontinental
railroad in 1869, the ultimate application of
gigantic amounts of capital to steam-powered
technology.
Steam-powered industry
suffered a gigantic stock market crash in 1873,
which was followed by two decades of downward
pressure on wages and prices, even though globally
productivity growth remained rapid as entirely new
industries were created. After 1869, innovation in
steam-powered engineering was modest, and new
investments of capital such as the major railroads
of the 1870s through the 1900s proved marginally
profitable at best.
Similarly in the
automobile sector, the early years produced a
profusion of models, powered by steam and
electricity as well as gasoline. However the major
impact on society came after Henry Ford's Model T
of 1908, with major innovations (the self-starter,
the synchromesh gearbox) continuing until
automatic transmission appeared in 1939.
The automobile's transformation of global
existence came slightly later, beginning in the
1920s in the United States, but delayed
considerably by the Great Depression and World War
II. Thus the transformation spread to Europe only
in the 1950s and China only within the last couple
of decades - automobiles being expensive, a fairly
high standard of living is required before they
can be purchased. Innovation in the automobile
sector has continued, with developments such as
the platinum catalyst and anti-lock braking
systems solving major problems. Nevertheless in
spite of the industry's market growth, its
profitability has been marginal since the 1970s
and innovation has been modest.
The early
years of information technology were similar to
the Savery/Newcomen years in steam engines. The
first computers were designed to solve very
specific, minor problems - the British Colossus,
the first such, designed to break German codes,
remained a state secret for 30 years. Though today
we mock Thomas J Watson, the CEO of IBM who in
1943 is said to have forecast the world market for
computers as five units, a similar forecast would
have been made about steam engines around 1710 -
both machines were initially so underpowered,
expensive and inefficient that they had very few
imaginable uses. Until the invention of the
personal computer in 1974, the sector remained
economically unimportant.
The period from
1974 until the bursting of the Internet bubble in
2000 brought Silicon Valley's maximum impact on
the global economy, in areas from modern finance
to retailing. The Internet itself, which burst to
prominence in a very short period around 1995, was
the most important information technology advance
in terms of its effect on life as a whole, but the
personal computer and the cellphone were not far
behind.
By the late 1990s, massive amounts
of capital were being deployed in IT, in very much
the same way as in the railways in the 1840s and
1850s and in the automobile industry in the 1920s.
Huge fortunes were made, the industry expanded
very rapidly and valuations reached sky-high
levels.
In retrospect, the dot-com crash
was similar to the Railway Crash of 1846 and the
stock market crash of 1929; it punctured the
balloon of valuations and killed off some of the
sillier uses of capital, but it did not kill the
industry, nor significantly slow its rate of
innovation. Just as 1846 was not the end of
steam's innovation and dominance and 1929 did not
mark the end of the automobile's efflorescence, so
tech sector innovation continued after 2000.
Even though the Great Depression reduced
the US automobile industry to an oligopoly of
three major manufacturers, it did not mark the end
of innovation, nor the end of the industry's
growth and prosperity, which peaked in the 1950s.
Only after the exuberant tail-fins boom of the
late 1950s expired did the automobile industry
become fully bureaucratized, with declining
innovation and profit margins. 1958's Edsel, not
1928's Ford Model A, marked the end of the
automobile's growth era
If 2000 was the
tech sector's 1929, the subsequent era has
represented an amalgam of the 1930s and the 1950s.
New entrants such as Google and Facebook have
appeared, as they did outside the United States in
the automobile industry. Of the top eight current
automobile manufacturers by sales volume, General
Motors, Ford and PSA Peugeot-Citroen predate 1929,
but Nissan (1933), Toyota (1937), Volkswagen
(1937), Hyundai (1947) and Honda (1948) postdate
that watershed.
However tech sector
innovations have been notably less fundamental
than before 2000. The two latest, the tablet and
the smartphone, appear to this outsider to be
considerably less fundamental than the
self-starter or automatic transmission; indeed the
latest Apple range of products bears a startling
technological resemblance to the Harley
Earl-designed automotive behemoths of the tail-fin
era. The Young Master assures me that the ability
to send and check Twitter messages in the middle
of Grand Central Station is fundamental to his
existence; no doubt the young of 1959 were
similarly attached to their automobile styling
that suggested their hot-rod was about to take off
on a visit to the Moon. For those under 50, let me
assure you that tail-fins were really, really
cool!
The post-tail-fin history of the
automobile industry suggests a number of things.
First, Apple's margins are unsustainable. In the
long run, people were not prepared to pay a large
premium for more extravagant tail-fins, as the
Edsel's unhappy history demonstrated. Similarly,
Apple's margins are almost certainly due to return
to the Earth-bound levels to which its competitors
are limited, affecting its earnings and indeed its
stock price. Apple will remain a successful
company, as did General Motors after 1959, but its
stock price is likely to see $100 again before it
sees $1,000.
Second, just as the research
laboratories of the automotive industry failed to
turn up world-changing innovations after the end
of the tail-fin era, so the innovation
productivity of teams of software developers may
similarly be sharply lessening. The complexity of
software innovation has increased with each new
generation of computer chips, so that Microsoft's
new Windows 8 operating system and Apple's new
iPhone 5, both involving gigantic, extremely
highly qualified teams of developers, have been
less than overwhelming in their impact on
consumers.
Within a year or two, after a
few more less than rapturous roll-outs, the public
may start making silly jokes about Silicon
Valley's finest and most qualified: Q: How long
does it take a team of 100 MIT-graduate software
engineers to change a light-bulb? A: Five years,
and $200 million in venture capital funding!
Curiously, the one innovation that may
preserve Silicon Valley's ability to amaze us for
another decade or so involves the automotive
industry also: the driverless car. Google has been
testing these on the streets of Silicon Valley,
reportedly satisfactorily, and if bugs can be
ironed out and regulatory Luddism overcome, it
seems likely that they will play a major role in
our lives over the next generation.
With
this innovation, the elderly with failing
reactions and eyesight will no longer be confined
to their homes, while commuters will no longer be
compelled to spend two hours per day separated
from their beloved smartphones (or endangering the
lives of others if they are tempted). Furthermore,
road capacity will be increased, fuel economy
improved and, most important, the toll of traffic
accidents reduced far below its current levels -
teenage parties, for example, will become much
less anxiety-producing for the parents. This
innovation is not quite equivalent to the Internet
or the automobile itself, but it's at least the
self-starter or automatic transmission.
Generally, however it seems likely that
Silicon Valley is about to enter the automotive
1960s, with a consumer reaction against its design
excesses, a series of very boring economy-based
products, and congressional hearings at which some
new young cyber-Ralph Nader will succeed in making
the industry look greedy and misguided.
Careers in tech will no longer be
fashionable, just as the best and brightest of my
1970 generation no longer sought careers in the
automobile industry. (One classmate, who went into
GM and rose very high there, gave a remarkably
self-satisfied presentation at our 20th reunion,
after which a friend remarked: "X was always a
jerk, and I guess he hasn't changed." You'd better
believe that those who had been equally successful
in less passe fields got a much better reception!)
Somewhere, tinkerers in a garage are
producing the first highly inefficient specimens
of the next Big Thing. But where - and what?
Martin Hutchinson is the author
of Great Conservatives (Academica Press,
2005) - details can be found on the website
www.greatconservatives.com - and co-author with
Professor Kevin Dowd of Alchemists of Loss
(Wiley, 2010). Both are now available on
Amazon.com, Great Conservatives only in a
Kindle edition, Alchemists of Loss in both
Kindle and print editions.
(Republished
with permission from PrudentBear.com.
Copyright 2005-13 David W Tice &
Associates.)
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