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The New Economy was not so new, says an OU Academic.

Research by OU Professor Mariana Mazzucato (Chair in Economics of Innovation), analyses the dynamic links between stock price volatility and technological innovation, dispelling the myth that the connection is peculiar to the so-called New Economy.  Her empirical work comparing the co-evolution of stock prices and radical innovation over the life-cycle of the US computer industry and the US car industry reveals that the bubble like behavior that many considered unique to the New Economy could be seen in the very early years of the US car industry.  Both periods were characterized by high turnover of firms, radical innovation by ‘garage tinkerers’, and high stock price volatility.

“I found that in both of these industries, it was the periods in which innovation was the most radical and “competence destroying” that excess volatility of stock prices (the degree to which stock prices are more volatile than the underlying ‘fundamentals’), and idiosyncratic risk (the degree to which firm specific returns are more volatile than average market returns) were the highest.” says Professor Mazzucato

“In fact, the early 1900s were also a time called a New Era in the USA due to the huge surge in new firms and the volatility of their growth rates and stock prices. When the car was invented, more than 300 companies entered the industry. But as design and production became standardised, there was less innovation and after 30 years only a dozen or so of those companies were still alive. This ‘industry shakeout’, in which those firms that cannot put up with large scale production and lower price-cost margins are forced to ‘exit’, has been documented in many different industries.  After the shakeout, innovation and industry structure are more stable: since the 1940’s, radical innovation in the car industry has been replaced by incremental innovation, and a stable oligopoly.  Yet in order to remain on a high growth track, an industry must find ways to keep the process of radical innovation alive. The computer industry seems not to be learning this lesson very well.”

Professor Mazzucato's research on innovation in the car industry's life-cycle, and the lessons to be learned for emerging industries, was featured in a BBC TV documentary Reinventing the Wheel hosted by PY Gerbeau. For more information on the documentary visit the OpenLearn website.

Professor Mazzucato’s work looks at the “non-linear” feedback between industry structure (e.g. whether an industry is competitive or concentrated) firm conduct (e.g. innovation, pricing decisions) and firm performance (e.g. profits, growth rates, stock prices).  She explained: “This lies in contrast to the more linear and static S-C-P approach in standard industrial economics where structure causes conduct which then causes performance. In order to model and explore this non linear feedback process, computer simulation techniques are very useful.”  Her theoretical work builds on a stream of economics called “evolutionary economics”, which highlights the role of inter-firm variety, and the selection mechanisms (not always efficient) that winnow in on that variety, during the process of economic growth.

Professor Mazzucato’s most recent research, on the biotech-pharma industry, appears to back up her previous work. She said: “In this work I am looking at the relationship between patent citation dynamics in a relatively new sector and stock price volatility, and here too it appears that firms which introduce patents with the most citations, a proxy indicator for radical change, are characterized by the most stock price volatility. This suggests that the market understands the uncertain and risky nature of the innovation process, at the core of Joseph Schumpeter’s analysis of capitalism.”