Beyond Computation: Information
Transformation and Business
Erik Brynjolfsson and Lorin M. Hitt
ow do computers contribute to business performance and economic
growth? Even today, most people who are asked to identify the
strengths of computers tend to think of computational tasks like
rapidly multiplying large numbers. Computers have excelled at computation
since the Mark I (1939), the ﬁrst modern computer, and the ENIAC (1943), the
ﬁrst electronic computer without moving parts. During World War II, the U.S.
government generously funded research into tools for calculating the trajecto-
ries of artillery shells. The result was the development of some of the ﬁrst digital
computers with remarkable capabilities for calculation—the dawn of the com-
However, computers are not fundamentally number crunchers. They are
symbol processors. The same basic technologies can be used to store, retrieve,
organize, transmit, and algorithmically transform any type of information that
can be digitized—numbers, text, video, music, speech, programs, and engineer-
ing drawings, to name a few. This is fortunate because most problems are not
numerical problems. Ballistics, code breaking, parts of accounting, and bits and
pieces of other tasks involve lots of calculation. But the everyday activities of
most managers, professionals, and information workers involve other types of
Erik Brynjolfsson is Associate Professor of Information Technology and Management, Sloan
School of Management, Massachusetts Institute of Technology, Cambridge, Massachusetts
and Co-director of the Center for eBusiness at MIT. Lorin M. Hitt is Assistant Professor
of Operations and Information Management, Wharton School, University of Pennsylva-
nia, Philadelphia, Pennsylvania. Their e-mail addresses are 具erikb@mit.edu典 and
具lhitt@wharton.upenn.edu典 and their websites are 具http://ebusiness.mit.edu/erik典 and
Journal of Economic Perspectives—Volume 14, Number 4 —Fall 2000—Pages 23–48
thinking. As computers become cheaper and more powerful, the business value
of computers is limited less by computational capability and more by the ability
of managers to invent new processes, procedures and organizational structures
that leverage this capability. As complementary innovations continue to de-
velop, the applications of computers will expand well beyond computation for
the foreseeable future.
The fundamental economic role of computers becomes clearer if one thinks
about organizations and markets as information processors (Galbraith, 1977; Si-
mon, 1976; Hayek, 1945). Most of our economic institutions and intuitions
emerged in an era of relatively high communications cost and limited computa-
tional capability. Information technology, deﬁned as computers as well as related
digital communication technology, has the broad power to reduce the costs of
coordination, communications, and information processing. Thus, it is not surpris-
ing that the massive reduction in computing and communications costs has engen-
dered a substantial restructuring of the economy. The majority of modern indus-
tries are being signiﬁcantly affected by computerization.
As a result, information technology is best described not as a traditional capital
investment, but as a “general purpose technology” (Bresnahan and Trajtenberg,
1995). In most cases, the economic contributions of general purpose technologies
are substantially larger than would be predicted by simply multiplying the quantity
of capital investment devoted to them by a normal rate of return. Instead, such
technologies are economically beneﬁcial mostly because they facilitate complemen-
Earlier general purpose technologies, such as the telegraph, the steam engine
and the electric motor, illustrate a pattern of complementary innovations that
eventually lead to dramatic productivity improvements. Some of the complemen-
tary innovations were purely technological, such as Marconi’s “wireless” version of
telegraphy. However, some of the most interesting and productive developments
were organizational innovations. For example, the telegraph facilitated the forma-
tion of geographically dispersed enterprises (Milgrom and Roberts, 1992); while
the electric motor provided industrial engineers more ﬂexibility in the placement
of machinery in factories, dramatically improving manufacturing productivity by
enabling workﬂow redesign (David, 1990). The steam engine was at the root of a
broad cluster of technological and organizational changes that helped ignite the
ﬁrst industrial revolution.
In this paper, we review the evidence on how investments in information
technology are linked to higher productivity and organizational transformation,
with emphasis on studies conducted at the ﬁrm level. Our central argument is
twofold: ﬁrst, that a signiﬁcant component of the value of information technology
is its ability to enable complementary organizational investments such as business
processes and work practices; second, these investments, in turn, lead to produc-
tivity increases by reducing costs and, more importantly, by enabling ﬁrms to
increase output quality in the form of new products or in improvements in
intangible aspects of existing products like convenience, timeliness, quality, and
24 Journal of Economic Perspectives
There is substantial evidence in both the case literature on individual ﬁrms
and multi-ﬁrm econometric analyses supporting both these points, which we review
and discuss in the ﬁrst half of this paper. This emphasis on ﬁrm-level evidence
stems in part from our own research focus but also because ﬁrm-level analysis has
signiﬁcant measurement advantages for examining intangible organizational in-
vestments and product and service innovation associated with computers.
Moreover, as we argue in the latter half of the paper, these factors are not well
captured by traditional macroeconomic measurement approaches. As a result, the
economic contributions of computers are likely to be understated in aggregate level
analyses. Placing a precise number on this bias is difﬁcult, primarily because of
issues about how private, ﬁrm-level returns aggregate to the social, economy-wide
beneﬁts and assumptions required to incorporate complementary organizational
factors into a growth accounting framework. However, our analysis suggests that the
returns to computer investment may be substantially higher than what is assumed
in traditional growth accounting exercises. Furthermore, total capital stock (includ-
ing intangible assets) associated with the computerization of the economy may be
understated by a factor of ten. Taken together, these considerations suggest the
bias is on the same order of magnitude as the currently measured beneﬁts of
Thus, while the recent macroeconomic evidence about computer contribu-
tions is encouraging, our views are more strongly inﬂuenced by the microeconomic
data. The micro data suggest that the surge in productivity that we now see in the
macro statistics has its roots in over a decade of computer-enabled organizational
investments. The recent productivity boom can in part be explained as a return on
this large, but intangible form of capital.
Companies using information technology to change the way they conduct
business often say that their investment in information technology complements
changes in other aspects of the organization. These complementarities have a
number of implications for understanding the value of computer investment. To be
successful, ﬁrms typically need to adopt computers as part of a “system” or “cluster”
of mutually reinforcing organizational changes (Milgrom and Roberts, 1990).
Changing incrementally, either by making computer investments without organi-
zational change, or only partially implementing some organizational changes, can
create signiﬁcant productivity losses as any beneﬁts of computerization are more
than outweighed by negative interactions with existing organizational practices
(Brynjolfsson, Renshaw and Van Alstyne, 1997). The need for “all or nothing”
For a more general treatment of the literature on information technology value, see reviews by
Brynjolfsson (1993); Wilson (1995); and Brynjolfsson and Yang (1996). For a discussion of the problems
in economic measurement of computers contributions at the macroeconomic level, see Baily and
Gordon (1988), Siegel (1997), and Gullickson and Harper (1999).
Erik Brynjolfsson and Lorin M. Hitt 25
changes between complementary systems was part of the logic behind the organi-
zational reengineering wave of the 1990s and the slogan “Don’t Automate, Oblit-
erate” (Hammer, 1990). It can also explain why many large scale information
technology projects fail (Kemerer and Sosa, 1991), while successful information
technology adopters earn signiﬁcant rents.
Many of the past century’s most successful and popular organizational prac-
tices reﬂect the historically high cost of information processing. For example,
hierarchical organizational structures can reduce communications costs because
they minimize the number of communications links required to connect multiple
economic actors, as compared with more decentralized structures (Malone, 1987;
Radner, 1993). Similarly, producing simple, standardized products is an efﬁcient
way to utilize inﬂexible, scale-intensive manufacturing technology. However, as the
cost of automated information processing has fallen by over 99.9 percent since the
1960s, it is unlikely that the work practices of the previous era will also be the same
ones that best leverage the value of cheap information and ﬂexible production. In
this spirit, Milgrom and Roberts (1990) construct a model in which ﬁrms’ transition
from “mass production” to ﬂexible, computer-enabled, “modern manufacturing” is
driven by exogenous changes in the price of information technology. Similarly,
Bresnahan (1999) and Bresnahan, Brynjolfsson and Hitt (2000) show how changes
in information technology costs and capabilities lead to a cluster of changes in work
organization and ﬁrm strategy that increase the demand for skilled labor.
In this section we will discuss case evidence on three aspects of how ﬁrms have
transformed themselves by combining information technology with changes in
work practices, strategy, and products and services; they have transformed the ﬁrm,
supplier relations, and the customer relationship. These examples provide quali-
tative insights into the nature of the changes, making it easier to interpret the more
quantitative econometric evidence that follows.
Transforming the Firm
The need to match organizational structure to technology capabilities and the
challenges of making the transition to an information technology-intensive pro-
duction process is concisely illustrated by a case study of “MacroMed” (a pseud-
onym), a large medical products manufacturer (Brynjolfsson, Renshaw and Van
Alstyne, 1997). In a desire to provide greater product customization and variety,
MacroMed made a large investment in computer integrated manufacturing. This
investment also coincided with an enumerated list of other major changes includ-
ing: the elimination of piece rates, giving workers authority for scheduling ma-
chines, changes in decision rights, process and workﬂow innovation, more frequent
and richer interactions with customers and suppliers, increased lateral communi-
cation and teamwork, and other changes in skills, processes, culture, and structure
(see Table 1).
However, the new system initially fell well short of management expectations
for greater ﬂexibility and responsiveness. Investigation revealed that line workers
still retained many elements of the now-obsolete old work practices, not necessarily
from any conscious effort to undermine the change effort, but simply as an
26 Journal of Economic Perspectives
inherited pattern. For example, one earnest and well-intentioned worker explained
that “the key to productivity is to avoid stopping the machine for product
changeovers.” While this heuristic was valuable with the old equipment, it negated
the ﬂexibility of the new machines and created large work-in-process inventories.
Ironically, the new equipment was sufﬁciently ﬂexible that the workers were able to
get it to work much like the old machines! The strong complementarities within the
old cluster of work practices and within the new cluster greatly hindered the
transition from one to the other.
Eventually, management concluded that the best approach was to introduce
the new equipment in a “greenﬁeld” site with a handpicked set of young employees
who were relatively unencumbered by knowledge of the old practices. The resulting
productivity improvements were signiﬁcant enough that management ordered all
the factory windows painted black to prevent potential competitors from seeing the
new system in action. While other ﬁrms could readily buy similar computer-
controlled equipment, they would still have to make the much larger investments
in organizational learning before fully beneﬁting from them and the exact recipe
for achieving these beneﬁts was not trivial to invent (see Brynjolfsson, Renshaw, and
Van Alstyne, 1997 for details). Similarly, large changes in work practices have been
documented in case studies of information technology adoption in a variety of
settings (Hunter, Bernhardt, Hughes and Skuratowicz, 2000; Levy, Beamish, Mur-
nane and Autor, 2000; Malone and Rockart, 1991; Murnane, Levy and Autor, 1999;
Changing Interactions with Suppliers
Due to problems coordinating with external suppliers, large ﬁrms often pro-
duce many of their required inputs in-house. General Motors is the classic example
Work Practices at MacroMed as Described in the Corporate Vision Statement
(introduction of computer-based equipment was accompanied by a large set of
Principles of the “old” factory Principles of the “new” factory
• Designated equipment • Flexible computer-based equipment
• Large inventories • Low inventories
• Pay tied to amount produced • All operators paid same ﬂat rate
• Keep line running no matter what • Stop line if not running at speed
• Thorough ﬁnal inspection by quality assurance • Operators responsible for quality
• Raw materials made in-house • All materials outsourced
• Narrow job functions • Flexible job responsibilities
• Areas separated by machine type • Areas organized in work cells
• Salaried employees make decisions • All employees contribute ideas
• Hourly workers carry them out • Supervisors can ﬁll in on line
• Functional groups work independently • Concurrent engineering
• Vertical communication ﬂow • Line rationalization
• Several management layers (6) • Few management layers (3–4)
Beyond Computation: Information Technology and Organizational Transformation 27
of a company whose success was facilitated by high levels of vertical integration.
However, technologies such as electronic data interchange, Internet-based pro-
curement systems, and other interorganizational information systems have signiﬁ-
cantly reduced the cost, time and other difﬁculties of interacting with suppliers. For
example, ﬁrms can place orders with suppliers and receive conﬁrmations electron-
ically, eliminating paperwork and the delays and errors associated with manual
processing of purchase orders (Johnston and Vitale, 1988). However, even greater
beneﬁts can be realized when interorganizational systems are combined with new
methods of working with suppliers.
An early successful interorganizational system is the Baxter ASAP system, which
lets hospitals electronically order supplies directly from wholesalers (Vitale and
Konsynski, 1988; Short and Venkatraman, 1992). The system was originally de-
signed to reduce the costs of data entry—a large hospital could generate 50,000
purchase orders annually which had to be written out by hand by Baxter’s ﬁeld sales
representatives at an estimated cost of $25-35 each. However, once Baxter comput-
erized its ordering and had data available on levels of hospital stock, it took
increasing responsibility for the entire supply operation: designing stockroom
space, setting up computer-based inventory systems, and providing automated
inventory replenishment. The combination of the technology and the new supply
chain organization substantially improved efﬁciency for both Baxter (no paper
invoices, predictable order ﬂow) and the hospitals (elimination of stockroom
management tasks, lower inventories, and less chance of running out of items).
Later versions of the ASAP system let users order from other suppliers, creating an
electronic marketplace in hospital supplies.
ASAP was directly associated with costs savings on the order of $10 to $15
million per year, which allowed them to recover rapidly the $30 million up front
investment and approximately $3 million annual operating costs. However, man-
agement at Baxter believed that even greater beneﬁts were being realized through
incremental product sales at the 5500 hospitals that had installed the ASAP system,
not to mention the possibility of a reduction of logistics costs borne by the hospitals
themselves, an expense which consumes as much as 30 percent of a hospital’s
Computer-based supply chain integration has been especially sophisticated in
the consumer packaged goods industries. Traditionally, manufacturers promoted
products such as soap and laundry detergent by offering discounts, rebates, or even
cash payments to retailers to stock and sell their products. Because many consumer
products have long shelf lives, retailers tended to buy massive amounts during
promotional periods, which increased volatility in manufacturing schedules and
distorted manufacturers’ view of their market. In response, manufacturers sped up
their packaging changes to discourage stockpiling of products and developed
internal audit departments to monitor retailers’ purchasing behavior for contrac-
tual violations (Clemons, 1993).
To eliminate these inefﬁciencies, Procter and Gamble pioneered a program
called “efﬁcient consumer response” (McKenney and Clark, 1995). In this ap-
proach, each retailer’s checkout scanner data goes directly to the manufacturer;
28 Journal of Economic Perspectives
ordering, payments, and invoicing are fully automated through electronic data
interchange; products are continuously replenished on a daily basis; and promo-
tional efforts are replaced by an emphasis on “everyday low pricing.” Manufacturers
also involved themselves more in inventory decisions and moved toward “category
management,” where a lead manufacturer would take responsibility for an entire
retail category (say, laundry products), determining stocking levels for their own
and other manufacturers’ products, as well as complementary items.
These changes, in combination, greatly improved efﬁciency. Consumers ben-
eﬁted from lower prices and increased product variety, convenience, and innova-
tion. Without the direct computer-computer links to scanner data and the elec-
tronic transfer of payments and invoices, they could not have attained the levels of
speed and accuracy needed to implement such a system.
Technological innovations related to the commercialization of the Internet
have dramatically decreased the cost of building electronic supply chain links.
Computer-enabled procurement and on-line markets enable a reduction in input
costs through a combination of reduced procurement time and more predictable
deliveries, which reduces the need for buffer inventories and reduces spoilage for
perishable products, reduced price due to increasing price transparency and the
ease of price shopping, and reduced direct costs of purchase order and invoice
processing. Where they can be implemented, these innovations are estimated to
lower the costs of purchased inputs by 10 to 40 percent, depending on the industry
(Goldman Sachs, 1999).
Some of these savings clearly represent a redistribution of rents from suppliers
to buyers, with little effect on overall economic output. However, many of the other
changes represent direct improvements in productivity through greater production
efﬁciency and indirectly by enabling an increase in output quality or variety without
excessive cost. To respond to these opportunities, ﬁrms are restructuring their
supply arrangements and placing greater reliance on outside contractors. Even
General Motors, once the exemplar of vertical integration, has reversed course and
divested its large internal suppliers. As one industry analyst recently stated, “What
was once the greatest source of strength at General Motors—its strategy of making
parts in-house—has become its greatest weakness” (Schnapp, 1998). To get some
sense of the magnitude of this change, the spinoff in 1999 of Delphi Automotive
Systems, only one of GM’s many internal supply divisions, created a separate
company that by itself has $28 billion in sales.
Changing Customer Relationships
The Internet has opened up a new range of possibilities for enriching inter-
actions with customers. Dell Computer has succeeded in attracting customer orders
and improving service by placing conﬁguration, ordering, and technical support
capabilities on the web (Rangan and Bell, 1999). It coupled this change with
systems and work practice changes that emphasize just-in-time inventory manage-
ment, build-to-order production systems, and tight integration between sales and
production planning. Dell has implemented a consumer-driven build-to-order
business model, rather than using the traditional build-to-stock model of selling
Erik Brynjolfsson and Lorin M. Hitt 29
computers through retail stores, which gives Dell as much as a 10 percent advantage
over its rivals in production cost. Some of these savings represent the elimination
of wholesale distribution and retailing costs. Others reﬂect substantially lower levels
of inventory throughout the distribution channel. However, a subtle but important
by-product of these changes in production and distribution is that Dell can be more
responsive to customers. When Intel releases a new microprocessor, as it does
several times each year, Dell can sell it to customers within seven days compared to
eight weeks or more for some less Internet-enabled competitors. This is a nontrivial
difference in an industry where adoption of new technology and obsolescence of
old technology is rapid, margins are thin, and many component prices drop by 3 to
4 percent each month.
Other ﬁrms have also built closer relations with their customer via the web and
related technologies. For instance, web retailers like Amazon.com provide person-
alized recommendations to visitors and allow them to customize numerous aspects
of their shopping experience. As described by Denise Caruso (1998), “Amazon’s
on-line account maintenance system provides its customers with secure access to
everything about their account at any time. [S]uch information ﬂow to and from
customers would paralyze most old-line companies.” Merely providing Internet
access to a traditional bookstore would have had a relatively minimal impact
without the cluster of other changes implemented by ﬁrms like Amazon.
An increasingly ubiquitous example is using the web for handling basic cus-
tomer inquiries. For instance, UPS now handles a total of 700,000 package tracking
requests via the Internet every day. It costs UPS 10¢ per piece to serve that
information via the Web vs. $2 to provide it over the phone (Seybold and Marshak,
1998). Consumers beneﬁt, too. Because customers ﬁnd it easier to track packages
over the web than via the phone, UPS estimates that two-thirds of the web users
would not have bothered to check on their packages if they did not have web access.
Large-Sample Empirical Evidence on Information Technology,
Organization and Productivity
The case study literature offers many examples of strong links between infor-
mation technology and investments in complementary organizational practices.
However, to reveal general trends and to quantify the overall impact, we must
examine these effects across a wide range of ﬁrms and industries. In this section we
explore the results from large-sample statistical analyses. First, we examine studies
on the direct relationship between information technology investment and busi-
ness value. We then consider studies that measured organizational factors and their
correlation with information technology use, as well as the few initial studies that
have linked this relationship to productivity increases.
Information Technology and Productivity
Much of the early research on the relationship between technology and
productivity used economy-level or sector-level data and found little evidence of a
30 Journal of Economic Perspectives
relationship. For example, Roach (1987) found that while computer investment
per white-collar worker in the service sector rose several hundred percent from
1977 to 1989, output per worker, as conventionally measured, did not increase
discernibly. In several papers, Morrison and Berndt examined Bureau of Economic
Analysis data for manufacturing industries at the two-digit SIC level and found that
the gross marginal product of “high-tech capital” (including computers) was less
than its cost and that in many industries these supposedly labor-saving investments
were associated with an increase in labor demand (Berndt and Morrison, 1995;
Morrison, 1996). Robert Solow (1987) summarized this kind of pattern in his
well-known remark: “[Y]ou can see the computer age everywhere except in the
However, by the early 1990s, analyses at the ﬁrm-level were beginning to ﬁnd
evidence that computers had a substantial effect on ﬁrms’ productivity levels. Using
data from over 300 large ﬁrms over the period 1988-92, Brynjolfsson and Hitt
(1995, 1996) and Lichtenberg (1995) estimated production functions that use
the ﬁrm’s output (or value-added) as the dependent variable and include ordinary
capital, information technology capital, ordinary labor, information technology
labor, and a variety of dummy variables for time, industry, and ﬁrm.
of these relationships is summarized in Figure 1, which compares ﬁrm-level infor-
mation technology investment with multifactor productivity (excluding computers)
for the ﬁrms in the Brynjolfsson and Hitt (1995) dataset. There is a clear positive
relationship, but also a great deal of individual variation in ﬁrms’ success with
Estimates of the average annual contribution of computer capital to total
output generally exceed $.60 per dollar of capital stock often by a substantial
margin, depending on the analysis and speciﬁcation (Brynjolfsson and Hitt, 1995,
1996; Lichtenberg, 1995; Dewan and Min, 1997). These estimates are statistically
different from zero, and in most cases signiﬁcantly exceed the expected rate of
return of about $.42 (the Jorgensonian rental price of computers—see Brynjolfsson
and Hitt, 2000). This suggests either abnormally high returns to investors or the
existence of unmeasured costs or barriers to investment. Similarly, most estimates
of the contribution of information systems labor to output exceed $1 for every $1
of labor costs.
Several researchers have also examined the returns to information technology
using data on the use of various technologies rather than the size of the investment.
Greenan and Mairesse (1996) matched data on French ﬁrms and workers to
measure the relationship between a ﬁrm’s productivity and the fraction of its
employees who report using a personal computer at work. Their estimates of
computers’ contribution to output are consistent with earlier estimates of the
computer’s output elasticity.
Other micro-level studies have focused on the use of computerized manufac-
These studies assumed a standard form (Cobb-Douglas) for the production function, and measured
the variables in logarithms. Later work using different functional forms, such as the transcendental
logarithmic (translog) production function, has little effect on the measurement of output elasticities.
Beyond Computation: Information Technology and Organizational Transformation 31
turing technologies. Kelley (1994) found that the most productive metal-working
plants use computer-controlled machinery. Black and Lynch (1996) found that
plants where a larger percentage of employees use computers are more productive
in a sample containing multiple industries. Computerization has also been found to
increase productivity in government activities both at the process level, such as
package sorting at the post ofﬁce or toll collection (Muhkopadhyay, Rajiv and
Srinivasan, 1997) and at higher levels of aggregation (Lehr and Lichtenberg, 1998).
Taken collectively, these studies suggest that information technology is associated
with substantial increases in output and productivity. Questions remain about the
mechanisms and direction of causality in these studies. Perhaps instead of information
technology causing greater output, “good ﬁrms” or average ﬁrms with unexpectedly
high sales disproportionately spend their windfall on computers. For example, while
Doms, Dunne and Troske (1997) found that plants using more advanced manufactur-
ing technologies had higher productivity and wages, they also found that this was
commonly the case even before the technologies were introduced.
Efforts to disentangle causality have been limited by the lack of good instru-
mental variables for factor investment at the ﬁrm-level. However, attempts to
correct for this bias using available instrumental variables typically increase the
estimated coefﬁcients on information technology even further (for example, Bry-
njolfsson and Hitt, 1996; 2000). Thus, it appears that reverse causality is not driving
the results: ﬁrms with an unexpected increase in free cash ﬂow invest in other
factors, such as labor, before they change their spending on information technol-
Productivity Versus Information Technology Stock (Capital plus Capitalized La-
bor) for Large Firms (1988 –1992), Adjusted for Industry
32 Journal of Economic Perspectives
ogy. Nonetheless, as the case studies underscore, there appears to be a fair amount
of causality in both directions—certain organizational characteristics make infor-
mation technology adoption more likely and vice versa.
The ﬁrm-level productivity studies can shed some light on the relationship
between information technology and organizational restructuring. For example,
productivity studies consistently ﬁnd that the output elasticities of computers
exceed their (measured) input shares. One explanation for this ﬁnding is that the
output elasticities for information technology are about right, but the productivity
studies are underestimating the input quantities because they neglect the role of
unmeasured complementary investments. Dividing the output of the whole set of
complements by only the factor share of information technology will imply dispro-
portionately high rates of return for information technology.
A variety of other evidence suggests that hidden assets play an important role
in the relationship between information technology and productivity. Brynjolfsson
and Hitt (1995) estimated a ﬁrm ﬁxed effects productivity model. This method can
be interpreted as dividing ﬁrm-level information technology beneﬁts into two parts;
one part is due to variation in ﬁrms’ information technology investments over time,
the other to ﬁxed ﬁrm characteristics. Brynjolfsson and Hitt found that in the ﬁrm
effects model, the coefﬁcient on information technology was about 50 percent
lower, compared to the results of an ordinary least squares regression, while the
coefﬁcients on the other factors, capital and labor, changed only slightly. This
change suggests that unmeasured and slowly changing organizational practices
(the “ﬁxed effect”) signiﬁcantly affect the returns to information technology in-
Another indirect implication from the productivity studies comes from evi-
dence that effects of information technology are substantially larger when mea-
sured over longer time periods. Brynjolfsson and Hitt (2000) examined the effects
of information technology on productivity growth rather than productivity levels,
which had been the emphasis in most previous work, using data that included more
than 600 ﬁrms over the period 1987 to 1994. When one-year differences in
information technology are compared to one-year differences in ﬁrm productivity,
the measured beneﬁts of computers are approximately equal to their measured
costs. However, the measured beneﬁts rise by a factor of two to eight as longer time
periods are considered, depending on the econometric speciﬁcation used. One
interpretation of these results is that short-term returns represent the direct effects
of information technology investment, while the longer-term returns represent the
effects of information technology when combined with related investments in
organizational change. Further analysis, based on earlier results by Schankerman
(1981) in the R&D context, suggested that these omitted factors were not simply
information technology investments and complements that were erroneously mis-
classiﬁed as capital or labor. Instead, to be consistent with the econometric results,
the omitted factors had to have been accumulated in ways that would not appear on
Hitt (1996) and Brynjolfsson and Hitt (2000) present a formal analysis of this issue.
Erik Brynjolfsson and Lorin M. Hitt 33
the current balance sheet. Firm-speciﬁc human capital and “organizational capital”
are two examples of omitted inputs that would ﬁt this description.
A ﬁnal perspective on the value of these organizational complements to
information technology can be found using ﬁnancial market data, drawing on the
literature on Tobin’s q. This approach measures the rate of return of an asset
indirectly, based on comparing the stock market value of the ﬁrm to the replace-
ment value of the various capital assets it owns. Typically, Tobin’s q has been
employed to measure the relative value of observable assets such as R&D or physical
plant. However, as suggested by Hall (1999a, b), Tobin’s q can also be viewed as
providing a measure of the total quantity of capital, including the value of “tech-
nology, organization, business practices, and other produced elements of successful
modern corporation.” Using an approach along these lines, Brynjolfsson and Yang
(1997) found that while one dollar of ordinary capital is valued at approximately
one dollar by the ﬁnancial markets, one dollar of information technology capital
appears to be correlated with on the order of $10 of additional stock market value
for Fortune 1000 ﬁrms using data spanning 1987 to 1994. Since these results, for
the most part, apply to large, established ﬁrms rather than new high-tech start-ups,
and since they predate most of the massive increase in market valuations for
technology stocks in the late 1990s, these results are not likely to be sensitive to the
possibility of a recent “high-tech stock bubble.”
A more likely explanation for these results is that information technology
capital is disproportionately associated with intangible assets like the costs of
developing new software, populating a database, implementing a new business
process, acquiring a more highly skilled staff, or undergoing a major organizational
transformation, all of which go uncounted on a ﬁrm’s balance sheet. In this
interpretation, for every dollar of information technology capital, the typical ﬁrm
has also accumulated about $9 in additional intangible assets. A related explanation
is that ﬁrms must occur substantial “adjustment costs” before information technol-
ogy is effective. These adjustment costs drive a wedge between the value of a
computer resting on the loading dock and one that is fully integrated into the
The evidence from both the productivity and Tobin’s q analyses provides some
insights into the properties of information technology-related intangible assets,
even if we cannot measure these assets directly. Such assets are large, potentially
several multiples of the measured information technology investment. They are
unmeasured in the sense that they do not appear as a capital asset or as other
components of ﬁrm input, although they do appear to be unique characteristics of
particular ﬁrms as opposed to industry effects. Finally, they have more effect in the
long term than the short term, suggesting that multiple years of adaptation and
investment is required before their inﬂuence is maximized.
Part of the difference in coefﬁcients between short and long difference speciﬁcations could also be
explained by measurement error (which tends to average out over longer time periods). Such errors-
in-variables can bias down coefﬁcients based on short differences, but the size of the change is too large
to be attributed solely to this effect (Brynjolfsson and Hitt, 2000).
34 Journal of Economic Perspectives
Direct Measurement of the Interrelationship between Information Technology
Some studies have attempted to measure organizational complements directly,
and to determine whether they are correlated with information technology invest-
ment, or whether ﬁrms that combine complementary factors have better economic
performance. Finding correlations between information technology and organiza-
tional change, or between these factors and measures of economic performance, is
not sufﬁcient to prove that these practices are complements, unless a full structural
model speciﬁes the production relationships and demand drivers for each factor.
Athey and Stern (1997) discuss issues in the empirical assessment of complemen-
tarity relationships. However, after empirically evaluating possible alternative ex-
planations and combining correlations with performance analyses, complementa-
rities are often the most plausible explanation for observed relationships between
information technology, organizational factors, and economic performance.
The ﬁrst set of studies in this area focuses on correlations between use of
information technology and extent of organizational change. An important ﬁnding
is that information technology investment is greater in organizations that are
decentralized and have a greater investment in human capital. For example,
Bresnahan, Brynjolfsson and Hitt (2000) surveyed approximately 400 large ﬁrms to
obtain information on aspects of organizational structure like allocation of decision
rights, workforce composition, and investments in human capital. They found that
greater levels of information technology are associated with increased delegation of
authority to individuals and teams, greater levels of skill and education in the
workforce, and greater emphasis on pre-employment screening for education and
training. In addition, they ﬁnd that these work practices are correlated with each
other, suggesting that they are part of a complementary work system. Kelley (1994)
found that the use of programmable manufacturing equipment is correlated with
several aspects of human resource practices.
Research on jobs within speciﬁc industries has begun to explore the mecha-
nisms within organizations that create these complementarities. Drawing on a case
study on the automobile repair industry, Levy, Beamish, Murnane and Autor
(2000) argue that computers are most likely to substitute for jobs that rely on rule-
based decision-making while complementing nonprocedural cognitive tasks. In
banking, researchers have found that many of the skill, wage and other organiza-
tional effects of computers depend on the extent to which ﬁrms couple computer
investment with organizational redesign and other managerial decisions (Hunter,
Bernhardt, Hughes and Skuratowicz, 2000; Murnane, Levy and Autor, 1999).
Researchers focusing at the establishment level have also found complementarities
between existing technology infrastructure and ﬁrm work practices to be a key
determinant of the ﬁrm’s ability to incorporate new technologies (Bresnahan and
Greenstein, 1997); this also suggests a pattern of mutual causation between com-
puter investment and organization.
A variety of industry-level studies also show a strong connection between
investment in high technology equipment and the demand for skilled, educated
workers (Berndt, Morrison and Rosenblum, 1992; Berman, Bound and Griliches,
Beyond Computation: Information Technology and Organizational Transformation 35
1994; Autor, Katz and Krueger, 1998). Again, these ﬁndings are consistent with the
idea that increasing use of computers is associated with a greater demand for
Several researchers have also considered the effect of information technology
on macro-organizational structures. They have typically found that greater levels of
investment in information technology are associated with smaller ﬁrms and less
vertical integration. Brynjolfsson, Malone, Gurbaxani and Kambil (1994) found
that increases in the level of information technology capital in an economic sector
were associated with a decline in average ﬁrm size in that sector, consistent with
information technology leading to a reduction in vertical integration. Hitt (1999),
examining the relationship between a ﬁrm’s information technology capital stock
and direct measures of its vertical integration, arrived at similar conclusions. These
results corroborate earlier case analyses and theoretical arguments that suggested
that information technology would be associated with a decrease in vertical inte-
gration because it lowers the costs of coordinating externally with suppliers (Ma-
lone, Yates and Benjamin, 1987; Gurbaxani and Whang, 1991; Clemons and Row,
One difﬁculty in interpreting the literature on correlations between informa-
tion technology and organizational change is that some managers may be predis-
posed to try every new idea and some managers may be averse to trying anything
new at all. In such a world, information technology and a “modern” work organi-
zation might be correlated in ﬁrms because of the temperament of management,
not because they are economic complements. To rule out this sort of spurious
correlation, it is useful to bring measures of productivity and economic perfor-
mance into the analysis. If combining information technology and organizational
restructuring is economically justiﬁed, then ﬁrms that adopt these practices as a
system should outperform those that fail to combine information technology
investment with appropriate organizational structures.
In fact, ﬁrms that adopt decentralized organizational structures and work
structures do appear to have a higher contribution of information technology to
productivity (Bresnahan, Brynjolfsson and Hitt, 2000). For example, ﬁrms that are
more decentralized than the median ﬁrm (as measured by individual organiza-
tional practices and by an index of such practices), have, on average, a 13 percent
greater information technology elasticity and a 10 percent greater investment in
information technology than the median ﬁrm. Firms that are in the top half of both
information technology investment and decentralization are on average 5 percent
more productive than ﬁrms that are above average only in information technology
investment or only in decentralization.
Similar results also appear when economic performance is measured as stock
market valuation. Firms in the top third of decentralization have a 6 percent higher
market value after controlling for all other measured assets; this is consistent with
the theory that organizational decentralization behaves like an intangible asset.
Moreover, the stock market value of a dollar of information technology capital is
between $2 and $5 greater in decentralized ﬁrms than in centralized ﬁrms (per
standard deviation of the decentralization measure), and as shown in Figure 2 this
36 Journal of Economic Perspectives
relationship is particularly striking for ﬁrms that are simultaneously extensive users
of information technology and highly decentralized (Brynjolfsson, Hitt and Yang,
The weight of the ﬁrm-level evidence shows that a combination of investment
in technology and changes in organizations and work practices facilitated by these
technologies contributes to ﬁrms’ productivity growth and market value. However,
much work remains to be done in categorizing and measuring the relevant changes
in organizations and work practices, and relating them to information technology
The Divergence of Firm-level and Aggregate Studies on
Information Technology and Productivity
While the evidence indicates that information technology has created substan-
tial value for ﬁrms that have invested in it, it has sometimes been a challenge to link
these beneﬁts to macroeconomic performance. A major reason for the gap in
interpretation is that traditional growth accounting techniques focus on the (rel-
atively) observable aspects of output, like price and quantity, while neglecting the
Market Value as a Function of Information Technology and Work Organization
Source: This graph was produced by nonparametric local regression models using data from
Brynjolfsson, Hitt and Yang (2000).
Erik Brynjolfsson and Lorin M. Hitt 37
intangible beneﬁts of improved quality, new products, customer service and speed.
Similarly, traditional techniques focus on the relatively observable aspects of invest-
ment, such as the price and quantity of computer hardware in the economy, and
neglect the much larger intangible investments in developing complementary new
products, services, markets, business processes, and worker skills. Paradoxically,
while computers have vastly improved the ability to collect and analyze data on
almost any aspect of the economy, the current computer-enabled economy has
become increasingly difﬁcult to measure using conventional methods. Nonetheless,
standard growth accounting techniques provide a useful starting point for any
assessment or for the contribution of information technology to economic growth.
Several studies of the contribution of information technology concluded that
technical progress in computers contributed roughly 0.3 percentage points per
year to real output growth when data from the 1970s and 1980s were used
(Jorgenson and Stiroh, 1995; Oliner and Sichel, 1994; Brynjolfsson, 1996).
Much of the estimated growth contribution comes directly from the large
quality-adjusted price declines in the computer producing industries. The nominal
value of purchases of information technology hardware in the United States in 1997
was about 1.4 percent of GDP. Since the quality-adjusted prices of computers
decline by about 25 percent per year, simply spending the same nominal share of
GDP as in previous years represents an annual productivity increase for the real
GDP of 0.3 percentage points (that is, 1.4 ⫻ .25 ⫽ .35). A related approach is to
look at the effect of information technology on the GDP deﬂator. Reductions in
inﬂation, for a given amount of growth in output, imply proportionately higher real
growth and, when divided by a measure of inputs, higher productivity growth as
well. Gordon (1998, p. 4) calculates that “computer hardware is currently contrib-
uting to a reduction of U.S. inﬂation at an annual rate of almost 0.5 percent per
year, and this number would climb toward one percent per year if a broader
deﬁnition of information technology, including telecommunications equipment,
More recent growth accounting analyses by the same authors have linked the
recent surge in measured productivity in the U.S. to increased investments in
information technology. Using similar methods as in their earlier studies, Oliner
and Sichel (this issue) and Jorgenson and Stiroh (1999) ﬁnd that the annual
contribution of computers to output growth in the second half of the 1990s is closer
to 1.0 or 1.1 percentage points per year. Gordon (this issue) makes a similar
estimate. This is a large contribution for any single technology, although research-
ers have raised concerns that computers are primarily an intermediate input and
that the productivity gains are disproportionately visible in computer-producing
industries as opposed to computer-using industries. For instance, Gordon notes
that after he makes adjustments for the business cycle, capital deepening and other
effects, there has been virtually no change in the rate of productivity growth outside
of the durable goods sector. Jorgenson and Stiroh ascribe a larger contribution to
computer-using industries, but still not as great as in the computer-producing
38 Journal of Economic Perspectives
Should we be disappointed by the productivity performance of the down-
Not necessarily. Two points are worth bearing in mind when comparing
upstream and downstream sectors. First, the allocation of productivity depends on
the quality-adjusted transfer prices used. If a high deﬂator is applied, the upstream
sectors get credited with more output and productivity in the national accounts, but
the downstream ﬁrms get charged with using more inputs and thus have less
productivity. Conversely, a low deﬂator allocates more of the gains to the down-
stream sector. In both cases, the increases in the total productivity of the economy
are, by deﬁnition, identical. Since it is difﬁcult to compute accurate deﬂators for
complex, rapidly changing intermediate goods like computers, one must be careful
in interpreting the allocation of productivity across producers and users.
The second point is more semantic. Arguably, downstream sectors are deliv-
ering on the information technology revolution by simply maintaining levels of
measured total factor productivity growth in the presence of dramatic changes in
the costs, nature and mix of intermediate computer goods. This reﬂects a success
in costlessly converting technological innovations into real output that beneﬁts end
consumers. If a ﬁrm maintains a constant nominal information technology budget
in the face of 50 percent information technology price declines over two years, it is
treated in the national accounts as using 100 percent more real information
technology input for production. A commensurate increase in real output is
required merely to maintain the same measured productivity level as before. Such
an output increase is not necessarily automatic since it requires a signiﬁcant change
in the input mix and organization of production. In the presence of adjustment
costs and imperfect output measures, one might reasonably have expected mea-
sured productivity to decline initially in downstream sectors as they absorb a rapidly
changing set of inputs and introduce new products and services.
Regardless of how the productivity beneﬁts are allocated, these studies show
that a substantial part of the upturn in measured productivity of the economy as a
whole can be linked to increased real investments in computer hardware and
declines in their quality-adjusted prices. However, there are several key assumptions
implicit in economy- or industry-wide growth accounting approaches which can
have a substantial inﬂuence on their results, especially if one seeks to know whether
investment in computers are increasing productivity as much as alternate possible
investments. The standard growth accounting approach begins by assuming that all
inputs earn “normal” rates of return. Unexpected windfalls, whether the discovery
of a single new oil ﬁeld, or the invention of a new process which makes oil ﬁelds
obsolete, show up not in the growth contribution of inputs but as changes in the
It is worth noting that if the exact quality change of an intermediate good is mismeasured, then the
total productivity of the economy is not affected, only the allocation between sectors. However, if
computer-using industries take advantage of the radical change in input in their quality to introduce
new quality levels output (or entirely new goods) and these changes are not fully reﬂected in ﬁnal output
deﬂators, then total productivity will be underestimated. In periods of rapid technological change, both
phenomena can be expected.
Beyond Computation: Information Technology and Organizational Transformation 39
multifactor productivity residual. By construction, an input can contribute more to
output in these analyses only by growing rapidly, not by having an unusually high
net rate of return.
Changes in multifactor productivity growth, in turn, depend on accurate
measures of ﬁnal output. However, nominal output is affected by whether ﬁrm
expenditures are expensed, and therefore deducted from value-added, or capital-
ized and treated as investment. As emphasized throughout this paper, information
technology is only a small fraction of a much larger complementary system of
tangible and intangible assets. However, current statistics typically treat the accu-
mulation of intangible capital assets, such as new business processes, new produc-
tion systems and new skills, as expenses rather than as investments. This leads to a
lower level of measured output in periods of net capital accumulation. Second,
current output statistics disproportionately miss many of the gains that information
technology has brought to consumers such as variety, speed, and convenience. We
will consider these issues in turn.
The magnitude of investment in intangible assets associated with computer-
ization may be large. Analyses of 800 large ﬁrms by Brynjolfsson and Yang (1997)
suggest that the ratio of intangible assets to information technology assets may be
10 to 1. Thus, the $167 billion in computer capital recorded in the U.S. national
accounts in 1996 may have actually been only the tip of an iceberg of $1.67 trillion
of information technology-related complementary assets in the United States.
Examination of individual information technology projects indicates that the
10:1 ratio may even be an underestimate in many cases. For example, a survey of a
common category of software projects—namely, “enterprise resource planning”—
found that the average spending on computer hardware accounted for less than
4 percent of the typical start-up cost of $20.5 million, while software licenses and
development were another 16 percent of total costs (Gormely et al., 1998). The
remaining costs included hiring outside and internal consultants to help design
new business processes and to train workers in the use of the system. The time of
existing employees, including top managers, that went into the overall implemen-
tation were not included, although it too is typically quite substantial.
The up-front costs were almost all treated as current expenses by the compa-
nies undertaking the implementation projects. However, insofar as the managers
who made these expenditures expected them to pay for themselves only over
several years, the nonrecurring costs are properly thought of as investments, not
expenses, when considering the impact on economic growth. In essence, the
managers were adding to the nation’s capital stock not only of easily visible
computers, but also of less visible business processes and worker skills.
How might these measurement problems affect economic growth and produc-
tivity calculations? In a steady state, it makes little difference, because the amount
of new organizational investment in any given year is offset by the “depreciation” of
organizational investments in previous years. The net change in capital stock is
zero. Thus, in a steady state, classifying organizational investments as expenses does
not bias overall output growth as long as it is done consistently from year to year.
However, the economy has hardly been in a steady state with respect to comput-
40 Journal of Economic Perspectives
ers and their complements. Instead, the U.S. economy has been rapidly adding
to its stock of both types of capital. To the extent that this net capital accumulation
has not been counted as part of output, output and output growth have been
The software industry offers a useful example of the impact of classifying a
category of spending as expense or investment. Historically, efforts on software
development have been treated as expenses, but recently the government has
begun recognizing that software is an intangible capital asset. Software investment
by U.S. businesses and governments grew from $10 billion in 1979 to $159 billion
in 1998 (Parker and Grimm, 2000). Properly accounting for this investment has
added 0.15 to 0.20 percentage points to the average annual growth rate of real GDP
in the 1990s. While capitalizing software is an important improvement in our
national accounts, software is far from the only, or even most important, comple-
ment to computers.
If the wide array of intangible capital costs associated with computers were
treated as investments rather than expenses, the results would be striking. Accord-
ing to some preliminary estimates from Yang (2000), building on estimates of the
intangible asset stock derived from stock market valuations of computers, the true
growth rate of U.S. GDP, after accounting for the intangible complements to
information technology hardware, has been increasingly underestimated by an
average of over 1 percent per year since the early 1980s, with the underestimate
getting worse over time as net information technology investment has grown.
Productivity growth has been underestimated by a similar amount. This reﬂects the
large net increase in intangible assets of the U.S. economy associated with the
computerization that was discussed earlier. Over time, the economy earns returns
on past investment, converting it back into consumption. This has the effect of
raising GDP growth as conventionally measured by a commensurate amount even
if the “true” GDP growth remains unchanged.
While the quantity of intangible assets associated with information technology
is difﬁcult to estimate precisely, the central lesson is that these complementary
changes are very large and cannot be ignored in any realistic attempt to estimate
the overall economic contributions of information technology.
The productivity gains from investments in new information technology are
underestimated in a second major way: failure to account fully for quality change
in consumable outputs. It is typically much easier to count the number of units
produced than to assess intrinsic quality—especially if the desired quality may vary
across customers. A signiﬁcant fraction of value of quality improvements due to
investments in information technology—like greater timeliness, customization, and
customer service—is not directly reﬂected as increased industry sales, and thus is
implicitly treated as nonexistent in ofﬁcial economic statistics.
These issues have always been a concern in the estimation of the true rate of
inﬂation and the real output of the U.S. economy (Boskin et al., 1997). If output
mismeasurement for computers was similar to output mismeasurement for previous
technologies, estimates of long-term productivity trends would be unaffected (Baily
and Gordon, 1988). However, there is evidence that in several speciﬁc ways,
Erik Brynjolfsson and Lorin M. Hitt 41
computers are associated with an increasing degree of mismeasurement that is
likely to lead to increasing underestimates of productivity and economic growth.
The production of intangible outputs is an important consideration for infor-
mation technology investments whether in the form of new products or improve-
ments in existing products. Based on a series of surveys of information services
managers conducted in 1993, 1995 and 1996, Brynjolfsson and Hitt (1997) found
that customer service and sometimes other aspects of intangible output (speciﬁcally
quality, convenience, and timeliness) ranked higher than cost savings as the moti-
vation for investments in information services. Brooke (1992) found that informa-
tion technology was also associated with increases in product variety.
Indeed, government data show many inexplicable changes in productivity,
especially in the sectors where output is measured poorly and where changes in
quality may be especially important (Griliches, 1994). Moreover, simply removing
anomalous industries from the aggregate productivity growth calculation can
change the estimate of U.S. productivity growth by 0.5 percent or more (Corrado
and Slifman, 1999). The problems with measuring quality change and true output
growth are illustrated by selected industry-level productivity growth data over
different time periods, shown in Table 2. According to ofﬁcial government statis-
tics, a bank today is only about 80 percent as productive as a bank in 1977; a health
care facility is only 70 percent as productive and a lawyer only 65 percent as
productive as they were 1977.
These statistics seem out of touch with reality. In 1977, virtually all banking was
conducted via the teller windows; today, customers can access a network of 139,000
automatic teller machines (ATMs) 24 hours a day, seven days a week (Osterberg
and Sterk, 1997), as well as a vastly expanded array of banking services via the
Internet. The more than tripling of cash availability via ATMs required an incre-
mental investment on the order of $10 billion compared with over $70 billion
invested in physical bank branches. Computer controlled medical equipment has
facilitated more successful and less invasive medical treatment. Many procedures
that previously required extensive hospital stays can now be performed on an
outpatient basis; instead of surgical procedures, many medical tests now use non-
invasive imaging devices such as x-rays, MRI, or CT scanners. Information technol-
ogy has supported the research and analysis that has led to these advances plus a
wide array of improvements in medication and outpatient therapies. A lawyer today
can access a much wider range of information through on-line databases and
manage many more legal documents. In addition, some basic legal services, such as
drafting a simple will, can now be performed without a lawyer using inexpensive
software packages such as Willmaker.
One of the most important types of unmeasured beneﬁts arises from new
goods. Sales of new goods are measured in the GDP statistics as part of nominal
output, although this does not capture the new consumer surplus generated by
such goods, which causes them to be preferred over old goods. Moreover, the
Bureau of Labor Statistics has often failed to incorporate new goods into price
indices until many years after their introduction; for example, it did not incorpo-
rate the VCR into the consumer price index until 1987, about a decade after they
42 Journal of Economic Perspectives
began selling in volume. This leads the price index to miss the rapid decline in
price that many new goods experience early in their product cycle. In a related
example, in 1990, sales of the printed multi-volume Encyclopedia Britannica were
$650 million and the production cost for each set was over $250, plus up to $500
for the salesperson’s commission (Evans and Wurster, 2000). Producing a CD-ROM
with the same information now costs less than $1, and presenting it via a website like
www.britannica.com, costs but a fraction of that. Sales of the printed version of all
encyclopedias, including Britannica, collapsed by over 80 percent in the 1990s, as
the content was bundled for “free” with ofﬁce software or delivered on the web. The
GDP statistics captured this collapse in sales, but not the value of the content that
is now free or nearly free. As a result, the inﬂation statistics overstate the true rise
in the cost of living, and when the nominal GDP ﬁgures are adjusted using that
price index, the real rate of output growth is understated (Boskin et al., 1997). The
problem extends beyond new high-tech products, like personal digital assistants
and web browsers. Computers enable more new goods to be developed, produced,
and managed in all industries. For instance, the number of new products intro-
duced in supermarkets has grown from 1281 in 1964, to 1831 in 1975, and then to
16,790 in 1992 (Nakamura, 1997); the data management requirements to handle so
many products would have overwhelmed the computerless supermarket of earlier
decades. Consumers have voted with their pocketbooks for the stores with greater
This collection of results suggests that information technology may be associ-
ated with increases in the intangible component of output, including variety,
customer convenience, and service. Because it appears that the amount of unmea-
sured output value is increasing with computerization, this measurement problem
not only creates an underestimate of output level, but also errors in measurement
of output and productivity growth when compared with earlier time periods which
had a smaller bias due to intangible outputs.
Just as the Bureau of Economic Analysis successfully reclassiﬁed many software
expenses as investments and is making quality adjustments, perhaps we will also
ﬁnd ways to measure the investment component of spending on intangible orga-
nizational capital and to make appropriate adjustments for the value of all gains
attributable to improved quality, variety, convenience and service. Unfortunately,
Annual (Measured) Productivity Growth for Selected Industries (based on dividing
BEA gross output by industry ﬁgures by BLS hours worked by industry for comparable
Industry 1948–1967 1967–1977 1977–1996
Depository Institutions .03% .21% ⫺1.19%
Health Services .99% .04% ⫺1.81%
Legal Services .23% ⫺2.01% ⫺2.13%
Source: Partial reproduction from Gordon (1998, Table 3).
Beyond Computation: Information Technology and Organizational Transformation 43
addressing these problems can be difﬁcult even for single ﬁrms and products, and
the complexity and number of judgments required to address them at the macro-
economic level is extremely high. Moreover, because of the increasing service
component of all industries (even basic manufacturing), which entails product and
service innovation and intangible investments, these problems cannot be easily
solved by focusing on a limited number of “hard to measure” industries—they are
pervasive throughout the economy.
Meanwhile, however, ﬁrm-level studies can overcome some of the difﬁculties in
assessing the productivity gains from information technology. For example, it is
considerably easier at the ﬁrm level to make reasonable estimates of the invest-
ments in intangible organizational capital and to observe changes in organizations,
while it is harder to formulate useful rules for measuring such investment at the
Firm-level studies may be less subject to aggregation error when ﬁrms make
different levels of investments in computers and thus could have different
capabilities for producing higher value products (Brynjolfsson and Hitt, 1996,
2000). Suppose a ﬁrm invests in information technology to improve product
quality and consumers recognize and value these beneﬁts. If other ﬁrms do not
make similar investments, any difference in quality will lead to differences in the
equilibrium product prices that each ﬁrm can charge. When an analysis is
conducted across ﬁrms, variation in quality will contribute to differences in
output and productivity and thus, will be measured as increases in the output
elasticity of computers. However, when ﬁrms with high quality products and
ﬁrms with low quality products are combined together in industry data (and
subjected to the same quality-adjusted deﬂator for the industry), both the
information technology investment and the difference in revenue will average
out, and a lower correlation between information technology and (measured)
output will be detected. Interestingly, Siegel (1997) found that the measured
effect of computers on productivity was substantially increased when he used a
structural equation framework to directly model the errors in production input
measurement in industry-level data.
However, ﬁrm-level data can be an unreliable way to capture the social gains
from improved product quality. For example, not all price differences reﬂect
differences in product or service quality. When price differences are due to
differences in market power that are not related to consumer preferences, then
ﬁrm-level data will lead to inaccurate estimates of the productivity effects of
information technology. Similarly, increases in quality or variety (like new product
introductions in supermarkets) can be a by-product of anticompetitive product
differentiation strategies, which may or may not increase total welfare. Moreover,
ﬁrm-level data will not fully capture the value of quality improvements or other
intangible beneﬁts if these beneﬁts are ubiquitous across an industry, because then
there will not be any interﬁrm variation in quality and prices. Instead, competition
will pass the gains on to consumers. In this case, ﬁrm-level data will also understate
the contribution of information technology investment to social welfare.
44 Journal of Economic Perspectives
Concerns about an information technology “productivity paradox” were raised
in the late 1980s. Over a decade of research since then has substantially improved
our understanding of the relationship between information technology and eco-
nomic performance. The ﬁrm-level studies in particular suggest that, rather than
being paradoxically unproductive, computers have had an impact on economic
growth that is disproportionately large compared to their share of capital stock or
investment, and this impact is likely to grow further in coming years.
In particular, both case studies and econometric work point to organizational
complements such as new business processes, new skills and new organizational and
industry structures as a major driver of the contribution of information technology.
These complementary investments, and the resulting assets, may be as much as an
order of magnitude larger than the investments in the computer technology itself.
However, they go largely uncounted in our national accounts, suggesting that
computers have made a much larger real contribution to the economy than
The use of ﬁrm-level data has cast a brighter light on the black box of
production in the increasingly information technology-based economy. The out-
come has been a better understanding of the key inputs, including complementary
organizational assets, as well as the key outputs including the growing roles of new
products, new services, quality, variety, timeliness and convenience. Measuring the
intangible components of complementary systems will never be easy. But if re-
searchers and business managers recognize the importance of the intangible costs
and beneﬁts of computers and undertake to evaluate them, a more precise assess-
ment of these assets needn’t be beyond computation.
Portions of this manuscript are to appear in MIS Review and in an edited volume, The
Puzzling Relations Between Computer and the Economy, Nathalie Greenan, Yannick
Lhorty and Jacques Mairesse, eds., MIT Press, 2001.
The authors thank David Autor, Brad De Long, Robert Gordon, Shane Greenstein, Dale
Jorgenson, Alan Krueger, Dan Sichel, Robert Solow, Kevin Stiroh and Timothy Taylor for
valuable comments on (portions of) earlier drafts. This work is funded in part by NSF Grant
Athey, S. and S. Stern. 1997. “An Empirical
Framework for Testing Theories about Comple-
mentarities in Organizational Design,” Mimeo,
Autor, D., L. F. Katz and A. B. Krueger. 1998.
“Computing Inequality: Have Computers
Changed the Labor Market?” Quarterly Journal of
Economics. November, 113:4, pp. 1169–1213.
Erik Brynjolfsson and Lorin M. Hitt 45
Baily, M. N. and R. J. Gordon. 1988. “The
Productivity Slowdown, Measurement Issues,
and the Explosion of Computer Power,” in
Brookings Papers on Economic Activity. W. C. Brai-
nard and G. L. Perry, ed. Washington, DC, The
Brookings Institution, pp. 347–431.
Berman, E., J. Bound and Z. Griliches. 1994.
“Changes in the Demand for Skilled Labor
within U.S. Manufacturing Industries.” Quarterly
Journal of Economics. May, 109, pp. 367–98.
Berndt, E. R. and C. J. Morrison. 1995. “High-
tech Capital Formation and Economic Perfor-
mance in U.S. Manufacturing Industries: An Ex-
ploratory Analysis.” Journal of Econometrics.
January, 65:1, pp. 9–43.
Berndt, E. R., C. J. Morrison and L. S. Rosen-
blum. 1992. “High-Tech Capital, Economic Per-
formance and Labor Composition in U.S. Man-
ufacturing Industries: An Exploratory Analysis.”
MIT Working Paper 3414EFA.
Black, S.E. and L.M. Lynch. 1996. “How to
Compete: The Impact of Workplace Practices
and IT on Productivity.” Harvard University,
Cambridge, MA and U.S. Department of Labor,
Washington, D.C., September.
Boskin, Michael J., Ellen R. Dulberger, Robert
J. Gordon, Zvi Griliches and Dale Jorgenson.
1997. “The CPI Commission: Findings and Rec-
ommendations.” American Economic Review. 87:2,
Bresnahan, T.F. 1999. “Computerization and
Wage Dispersion: An Analytic Reinterpretation.”
Economic Journal. June, 109:456, pp. F390–415.
Bresnahan, T., E. Brynjolfsson and L. Hitt.
2000. “IT, Workplace Organization and the De-
mand for Skilled Labor: A Firm-level Analysis.”
Mimeo, MIT, Stanford, and Wharton.
Bresnahan, T. F. and M. Trajtenberg. 1995.
“General Purpose Technologies: ‘Engines of
Growth’?” Journal of Econometrics. 65, pp. 83–108.
Bresnahan, T.F. and S. Greenstein. 1997.
“Technical Progress and Co-Invention in Com-
puting and in the Use of Computers.” Brookings
Papers on Economic Activity: Microeconomics. Janu-
ary, pp. 1–78.
Brooke, G. M. 1992. “The Economics of In-
formation Technology: Explaining the Produc-
tivity Paradox.” MIT Sloan School of Manage-
ment Center for Information Systems Research
Working Paper No. 238, April.
Brynjolfsson, E. 1993. “The Productivity Para-
dox of Information Technology.” Communica-
tions of the ACM. 35:12, pp. 66–77.
Brynjolfsson, E. 1996. “The Contribution of
Information Technology to Consumer Welfare.”
Information Systems Research. 7:3, pp. 281–300.
Brynjolfsson, E., T. Malone, V. Gurbaxani and
A. Kambil. 1994. “Does Information Technology
Lead to Smaller Firms?” Management Science.
40:12, pp. 1628–1644.
Brynjolfsson, E. and L. Hitt. 1995. “Informa-
tion Technology as a Factor of Production: The
Role of Differences Among Firms.” Economics of
Innovation and New Technology. 3:4, pp. 183–200.
Brynjolfsson, E. and L. Hitt. 1996. “Paradox
Lost? Firm-level Evidence on the Returns to In-
formation Systems Spending.” Management Sci-
ence 42:4, pp. 541–58.
Brynjolfsson, E. and L. Hitt. 1997. “Breaking
Boundaries.” Informationweek. September, 22, pp.
Brynjolfsson, E. and L. Hitt. 2000. “Comput-
ing Productivity: Are Computers Pulling Their
Weight?” Mimeo, MIT and Wharton.
Brynjolfsson, E. and S. Yang. 1996. “Informa-
tion Technology and Productivity: A Review of
the Literature,” in Advances in Computers.
M. Zelkowitz, ed, Vol. 43.
Brynjolfsson, E. and S. Yang. 1997. “The In-
tangible Beneﬁts and Costs of Computer Invest-
ments: Evidence from Financial Markets,” in
Proceedings of the International Conference on Infor-
mation Systems. Atlanta, GA. Revised, 2000.
Brynjolfsson, E., A. Renshaw and M. Van Al-
styne. 1997. “The Matrix of Change.” Sloan Man-
agement Review, Winter.
Brynjolfsson, E., L. Hitt and S.K. Yang. 2000.
“Intangible Assets: How the Interaction of Infor-
mation Systems and Organizational Structure
Affects Stock Market Valuations,” mimeo, MIT
and Wharton. A previous version appeared in
the Proceedings of the International Conference on
Information Systems, Helsinki, Finland, 1998.
Caruso, Denise. 1998. “Digital Commerce.”
The New York Times. May 11.
Corrado, C. and L. Slifman. 1999. “Decompo-
sition of Productivity and Unit Costs.” American
Economic Review. 89:2, pp. 328–32.
Clemons, Eric K. and Michael C. Row. 1992.
“Information Technology and Industrial Coop-
eration: The Changing Economics of Coordina-
tion and Ownership.” Journal of Management In-
formation Systems. 9:2, pp. 9–28.
Clemons, Eric K. 1993. “Reengineering the
Sales Function: Reengineering Internal Opera-
tions.” Teaching Case, The Wharton School.
Clemons, Eric K., Matt E. Thatcher and Mi-
chael C. Row. 1995. “Identifying Sources of Re-
engineering Failures: A Study of the Behavioral
Factors Contributing to Reengineering Risks.
Journal of Management Information Systems. 12:2,
David, P. A. 1990. “The Dynamo and the Com-
puter: A Historical Perspective on the Modern
Productivity Paradox.” American Economic Review
Papers and Proceedings. l:2, pp. 355–61.
46 Journal of Economic Perspectives
Dewan, S. and C. K. Min. 1997. “Substitution
of Information Technology for Other Factors of
Production: A Firm-level Analysis.” Management
Science. 43:12, pp. 1660–1675.
Doms, Mark, Timothy Dunne and Kenneth R.
Troske. 1997. “Workers, Wages, and Technol-
ogy.” The Quarterly Journal of Economics. 112:1,
Evans, Phillip and Thomas Wurster. 2000.
Blown to Bits. Boston: Harvard Business School
Galbraith, J. 1977. Organizational Design. Read-
ing, MA: Addison-Wesley.
Gordon, Robert J. 1998. “Monetary Policy in
the Age of Information Technology: Computers
and the Solow Paradox.” Working Paper, North-
Goldman Sachs. 1999. B2B: To Be or Not 2B?
High Technology Group Whitepaper, Novem-
Gormley, J., W. Bluestein, J. Gatoff and H.
Chun. 1998. “The Runaway Costs of Packaged
Applications.” The Forrester Report. 3:5, Cam-
Greenan, N. and J. Mairesse. 1996. “Comput-
ers and Productivity in France: Some Evidence,”
NBER Working Paper 5836, November.
Griliches, Z. 1994. “Productivity, R&D and the
Data Constraint.” American Economic Review. 84:2,
Gullickson, W. and M.J. Harper. 1999. “Possi-
ble Measurement Bias in Aggregate Productivity
Growth.” Monthly Labor Review. February, 122:2,
Gurbaxani, V. and S. Whang. 1991. “The Im-
pact of Information Systems on Organizations
and Markets.” Communications of the ACM. 34:1,
Hall, R. E. 1999a. “The Stock Market and
Capital Accumulation,” NBER Working Paper
Hall, R. E. 1999b. “Reorganization,” NBER
Working Paper 7181, June.
Hammer, M. 1990. “Reengineering Work:
Don’t Automate, Obliterate.” Harvard Business
Review. July-August, pp. 104–12.
Hitt, L. 1996. Economic Analysis of Information
Technology and Organization. Unpublished doc-
toral dissertation, MIT Sloan School of Manage-
Hitt, Lorin M. 1999. “Information Technology
and Firm Boundaries: Evidence from Panel
Data.” Information Systems Research. June, 10:9, pp.
Hunter, Larry W., Annette Bernhardt, Kather-
ine L. Hughes and Eva Skuratowicz. 2000. “It’s
Not Just the ATMs: Firm Strategies, Work Re-
structuring and Workers’ Earnings in Retail
Banking,” mimeo, Wharton School.
Johnston, H. Russell and Michael R. Vitale.
1988. “Creating Competitive Advantage with In-
terorganizational Information Systems.” MIS
Quarterly. 12:2, pp. 153–65.
Jorgenson, Dale W. and Kevin Stiroh. 1995.
“Computers and Growth.” Journal of Economics of
Innovation and New Technology. 3. pp. 295–316.
Jorgenson, Dale W. and Kevin Stiroh. 1999.
“Information Technology and Growth.” Ameri-
can Economic Review, Papers and Proceedings. May,
89:2, pp. 109–15.
Kelley, Maryellen R. 1994. “Productivity and
Information Technology: The Elusive Connec-
tion.” Management Science. 40:11, pp. 1406–
Kemerer, C. F. and G. L. Sosa. 1991. “Systems
Development Risks in Strategic Information Sys-
tems.” Information and Software Technology. 33:3,
Lehr, W. and F.R. Lichtenberg. 1998. “Com-
puter Use and Productivity Growth in Federal
Government Agencies 1987-92.” Journal of Indus-
trial Economics. 46:2, pp. 257–79.
Levy, Frank, Anne Beamish, Richard J. Mur-
nane and David Autor. 2000. “Computerization
and Skills: Examples from a Car Dealership,”
mimeo, MIT and Harvard.
Lichtenberg, F. R. 1995. “The Output Contri-
butions of Computer Equipment and Personal:
A Firm-level Analysis.” Economics of Innovation
and New Technology. 3, pp. 201–17.
Malone, Thomas W. 1987. “Modelling Coordi-
nation in Organizations and Markets.” Manage-
ment Science. 33:10, pp. 1317–1332.
Malone, Thomas W. and John Rockart. 1991.
“Computers, Networks, and the Corporation.”
Scientiﬁc American. 265:3, pp. 128–36.
Malone, T. W., J. Yates and R. I. Benjamin.
1987. “Electronic Markets and Electronic Hier-
archies.” Communications of the ACM. 30:6, pp.
McKenney, J.L. and T.H. Clark. 1995. “Proc-
tor and Gamble: Improving Consumer Value
through Process Redesign.” Harvard Business
School Case Study 9-195-126.
Milgrom, P. and J. Roberts. 1990. “The Eco-
nomics of Modern Manufacturing: Technology,
Strategy, and Organization.” American Economic
Review. 80:3, pp. 511–28.
Milgrom, Paul and John Roberts. 1992. Eco-
nomics, Organization and Management. New York:
Morrison, Catherine J. 1996. “Assessing the
Productivity of Information Technology
Equipment in U.S. Manufacturing Industries.”
Beyond Computation: Information Technology and Organizational Transformation 47
Review of Economics and Statistics. 79:3, pp. 471–
Mukhopadhyay, Tridas, Surendra Rajiv
and Kannan Srinivasan. 1997. “Information
Technology Impact on Process Output and
Quality.” Management Science. 43:12, pp. 1645–
Murnane, Richard J., Frank Levy and David
Autor. 1999. “Technological Change, Comput-
ers and Skill Demands: Evidence from the Back
Ofﬁce Operations of a Large Bank,” mimeo,
NBER Economic Research Labor Workshop,
Nakamura, L. I. 1997. “The Measurement of
Retail Output and the Retail Revolution,” paper
presented at the CSLS Workshop on Service
Sector Productivity and the Productivity Para-
dox, Ottawa, Canada, April.
Oliner, S. D. and D. E. Sichel. 1994. “Comput-
ers and Output Growth Revisited: How Big is the
Puzzle?” Brookings Papers on Economic Activity: Mi-
croeconomics. 2, pp. 273–334.
Orlikowski, W. J. 1992. “Learning from Notes:
Organizational Issues in Groupware Implemen-
tation,” in Conference on Computer Supported Coop-
erative Work. J. Turner and R. Kraut. Toronto,
Association for Computing Machinery, pp. 362–
Osterberg, William P. and Sandy A. Sterk.
1997. “Do More Banking Ofﬁces Mean More
Banking Services?” Economic Commentary (Fed-
eral Reserve Bank of Cleveland), 1-5.
Parker, Robert and Bruce Grimm. 2000. “Rec-
ognition of Business and Government Expendi-
tures on Software as Investment: Methodology
and Quantitative Impacts, 1959–98.” Working
Paper, Bureau of Economic Analysis. Presented
at May 5, 2000, Meeting of BEA Advisory Com-
Radner, R. 1993. “The Organization of Decen-
tralized Information Processing.” Econometrica.
62, pp. 1109–1146.
Rangan, V. and M. Bell. 1998. Dell Online.
Harvard Business School Case Study 9-598-116.
Roach, Stephen S. 1987. “America’s Technol-
ogy Dilemma: A Proﬁle of the Information Econ-
omy.” Morgan Stanley Special Economic Study.
Schankerman, M. 1981. “The Effects of
Double-Counting and Expensing on the Mea-
sured Returns to R&D.” Review of Economics and
Statistics. 63, pp. 454–58.
Schnapp, John. 1998. “An Old Strategy is
Backﬁring at G.M.” New York Times. July 12, sec-
Seybold, Patricia and Ronni Marshak.
1998. Customers.com: How to Create A Proﬁtable
Business Strategy for the Internet and Beyond.
Short, James E. and N. Venkatraman. 1992.
“Beyond Business Process Redesign: Redeﬁning
Baxter’s Business Network.” Sloan Management
Review. 34:1, pp. 7–20.
Siegel, Donald. 1997. “The Impact of Com-
puters on Manufacturing Productivity Growth:
A Multiple-Indicators Multiple-Causes Ap-
proach.” Review of Economics and Statistics. 79:1,
Simon, Herbert A. 1976. Administrative Behav-
ior. New York: The Free Press, 3
Solow, R.M. 1987. “We’d Better Watch Out.”
New York Times Book Review. July 12, 36.
Vitale, M. and B. Konsynski. 1988. Baxter
Healthcare Corp.: ASAP Express, Harvard Busi-
ness School Case 9-188-080.
Wilson, Diane D. 1995. “IT Investment and its
Productivity Effects: An Organizational Sociolo-
gist’s Perspective on Directions for Future Re-
search.” Economics of Innovation and New Technol-
ogy. 3, pp. 235–51.
Yang, Shinkyu. 2000. “Productivity Measure-
ment in the Information Economy: A Revised
Estimate of Total Factor Productivity.’’ Mimeo,
New York University.
48 Journal of Economic Perspectives