E-Capital: The Link between the Stock Market and the Labor Market in the 1990s

Over the past decade, new technologies based on computer software began to transform the production and distribution of goods and to form the basis of new goods in the U.S. economy. The value of the stock market rose tremendously, with many of the largest increases among firms implementing the new technologies. Figure 1 depicts this increase in relation to the replacement cost of the inventories and plant and equipment of corporations. One of the reasons for the upsurge, according to the view developed in this paper, was an increase in the value of installed physical capital thanks to an unexpected rise in the demand for capital. A more important reason was the accumulation of intangibles, demand for which increased even more rapidly. Internet companies are valued almost exclusively for their intangibles: as of November 7, 2000, Yahoo! had a value of $37 billion but only $158 million of physical capital.

The workers who develop and use the new technologies are mostly college graduates. Both the number of college-educated workers and their relative earnings rose remarkably in the 1990s. The ratio of dollars paid to all college graduates for their labor to dollars paid to all other workers rose from 0.61 in 1990 to 0.89 in 1998. Figure 2 shows the increase in constant-dollar earnings per worker by educational attainment from 1990 to 1998. College graduates enjoyed much larger increases than those with less education, except for the lowest education group; people with graduate training saw even greater increases.

Figure 1.

Traditional Measure of Tobin's q for Physical Capital, 1990-99^a

Despite the evidence from the stock market that corporations have accumulated valuable technological resources apart from their physical capital, and despite the huge increase in demand for college graduates that derives from the new technology, productivity growth rose only a little in the 1990s. The data I use in this paper show a Solow residual, or total factor productivity growth, of 0.9 percent a year from 1990 to 1998. This figure, which is similar to the findings of other recent studies, suggests that the idea of a technological revolution in the United States is overblown. Skeptics of the importance of new technology tend to view the high stock market valuation of U.S. corporations as an irrational bubble and note that it is unsupported by comparable improvement in current productivity or profit.

This paper pursues the argument that I have developed elsewhere that today's high stock market valuations should be taken seriously as a measure of the resources owned by corporations.¹ I introduce a new kind of capital—e-capital—to characterize these resources. I view the production of goods and services as employing the services of e-capital along with machines, college-graduate workers (c-workers), and workers who have not graduated from college (h-workers). The technology for making e-capital is simple: c-workers by themselves make e-capital. No other factors are required. I use the standard tools of production economics to understand changes in factor intensities and factor prices, without invoking significant changes over time in the production function for goods and services.

Figure 2.

Increases in Average Annual Real Earnings from 1990 to 1998 by Level of Education^a

A firm's e-capital is a body of technical and organizational know-how. Much e-capital involves the use of computers and software, but it is the business methods based on computers, not the computers themselves, that constitute e-capital. Computers count as ordinary plant and equipment. E-capital-intensive firms handle huge flows of transactions accurately and quickly. They employ far fewer expensive workers as problem solvers than do traditional firms, because they have developed systems to get things right the first time. Industries with high levels of e-capital relative to employment include insurance, securities brokers, communications, and equipment manufacturing. For example, online brokers such as E*Trade prosper by substituting...