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Records of the Council of Economic Advisers (Clinton Administration)
Nathaniel Stankard's Files
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Case Number: 2019-0203-F
FOIA
MARKER
This is not a textual record. This is used as an
administrative marker by the Clinton Presidential
Library Staff.
Folder Title:
Digital Divide
Staff Office-Individual:
Council of Economic Advisors-Stankard, Nathaniel
Original OA/ID Number:
CF 1947
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Section:
Shelf:
Position:
Stack:
16
5
8
1
V
Fm: Menzie Chinn
Date: 4 August 2000
Re: The Rationale for Development Assistance for IT Investment (Draft)
Outline
1. Overview
2. The Economic Rationale
3. Some Critiques and Responses
1. Overview
The Okinawa Charter on the Global Information Society has prompted some critical reviews. In
particular, some observers have raised issue with the priority given to closing the international
digital divide, as opposed to other initiatives. The specific question is why one should favor this
form of resource transfer over others. Below, the economic rationale for development assistance
devoted to information and communication technology (IT) related areas is discussed. Some
criticisms of the reasoning underpinning the Charter are also addressed.
2. The Economic Rationale
2.1. Why Focus on IT in Particular?
The reason for focusing on IT is that the rate of return on IT related activities is perceived to be
extremely high. In order to rationalize why development assistance (or government intervention
at all) is needed, one must appeal to the observation of market failures (externalities) and
imperfections (monopoly, asymmetric information) in less developed countries. Externalities
may explain why labor, and human and physical capital do not move to the activity where they
will receive the highest social rate of return. Even in the absence of market failures, market
imperfections - perhaps most significantly in credit and capital markets - may lead to under-
investment in certain activities.
While such imperfections can cause under-investment in all types of activities economic theory
suggests that these imperfections may be very pronounced in activities involving IT. Much of the
capital associated with IT-related businesses is intangible in nature - that is only a portion of the
worth of a firm is embodied in the physical plant, while a large amount may be embodied in the
organization and operating procedures of the firm. In this case, it is more difficult to "monitor"
the management of the firm, and hence lenders will require an even higher rate of return than
would occur if no asymmetric information existed.
In assessing the case for the G-8 initiative, one is hampered by the lack of quantitative evidence
on the benefits and costs of IT-related activities. This comes as no surprise given the relative
novelty of the internet and other IT in the developing world. However, there is a substantial body
of work addressing a sector that is widely perceived to be analogous to IT - namely
telecommunications.
1
There are externalities associated with having a network through which information can be
widely transmitted -- the benefits to society of having an individual firm connected to the phone
system exceeds the benefits accruing to that single firm; however, that single firm only invests in
phone service up to the point where the cost of the last unit of phone service equals its private
(not social) benefit of the last unit of phone service. Thus, in this situation, there is under-
investment in telecommunications.
The standard policy prescription is for government intervention to internalize the externalities,
preferably by a subsidy. Failing that, a properly managed state-owned enterprise can in principle
accomplish the task, although not necessarily with the same degree of efficiency.
Unfortunately, most state-owned enterprises in less developed countries are part of the problem,
rather than part of the solution (particularly in Africa; see Oshikoya and Hussain, 1998). These
entities seldom internalize externalities, but instead provide services inefficiently (technically
and economically). Presumably, leaving the development of IT to the market or state would lead
to a similar state of affairs. Hence, the argument for intervention.
2.2 The Link from Telecoms to IT
In the least developed countries, establishment of an efficient and extensive telecom
infrastructure is a prerequisite for rapid diffusion of internet connectivity. Hence, the most
concrete action the G-8 countries can take that will foster IT in developing economies is included
in the Charter: " .mobilising resources to improve information and communications
infrastructure" (G-8, para. 19). Development assistance of either a technical, managerial, or
financial form can be used to assist governments in either reforming their state-owned telecoms,
or preferably, privatizing them while simultaneously establishing effective regulatory agencies.
1
2
The importance of the communications infrastructure to the development of internet use is
illustrated by the following study. Using a cross-country data set on 153 countries in 1995,
Canning estimated a series of regressions using various measures of internet activity: (i) number
of packets; (ii) number of internet hosts; and (iii) the number of internet users.
For countries with internet activity, he found that:
After controlling for population and income per capita, and the monthly cost of a line, the
elasticity of packets with respect to number of main telephone lines per capita is 0.785 and
statistically significant at the 1% MSL (Canning, 1999a, Table 1). A fuller specification yields a
higher point estimate (1.036) that is only marginally significant.
1
Goldstein and O'Conner (2000) note that more than 90 developing economies opened their telecom sector between
1990 and 1998. Thus the Charter's emphasis on pro-competitive policies can be viewed as an extension of the
current trend toward deregulation.
2
Mann (2000: 9) makes explicit the point that other aspects of infrastructure cannot be ignored. Taking advantage
of the opportunities afforded by e-commerce, for instance, will require both an efficient telecommunications
network and the transportation infrastructure necessary to deliver the goods.
2
The number of internet hosts does not depend upon the number of main lines per capita, but
does depend negatively upon the number of faults per main line (that is, the interruptions to
service), and positively upon the number of digital phone lines (Canning, 1999a, Table 4).
For the full sample, including countries that didn't have internet activity:
After controlling for population and income per capita, the number of main lines per capita is a
statistically significant determinant of whether there is any internet activity, regardless of
whether the measure is the number of packets or the number of hosts.
A ten percent increase in the number of main lines per capita increases the likelihood of
internet activity by between 2.6% and 3.0% (Canning, 1999a, Table 5).
Hence, a substantive component of the Charter would be a renewed emphasis on reforming and
improving the telecommunications sector in developing countries.
3. Some Critiques and Responses
Critique: Debt relief would be a superior form of assistance, as compared to additional
resource commitments for IT investment.
Response: This criticism requires careful analysis in order to respond correctly. First, it is
important to remember that no country has indicated that it would decrease funds for debt
reduction in exchange for additional funding for the DOT force initiative.
Second, to the extent that the additional resources represented by DOT-force funds could be
devoted instead to debt relief, one needs to ask to what end those funds freed up by debt relief
will go to. If the funds go to subsidize consumption for urban groups, for instance, then recipient
countries will again accumulate debt without appreciable acceleration in growth. If the funds
instead go to finance health and education expenditures, then substantial gains to economic
growth will occur over time. A similar argument can be applied to investment in basic
infrastructure.
However, a dollar's worth of investment in IT (interpreted as internet connectivity) is likely to
yield a greater rate of return than a dollar's worth of investment in other infrastructure. No
plausible estimates for the social rate of return on internet investments exist; however Canning
(1999b) extrapolates from the experience with the expansion of telephony. Citing the 1994
World Development Report, he notes that the average financial rate of return of
telecommunications projects was approximately 20%, a relatively high number even when
compared to private rates of return.
To some extent, one is more concerned with economic growth, rather than financial rates of
return. Using data on a panel of 57 countries over at least 20 years, he obtains a point estimate of
0.139 for the elasticity of output-per-worker with respect to main phone lines per worker,
holding the capital stock constant. However, the telecommunications related capital stock is
3
included in the aggregate capital stock number, implying that a unit of telecommunications
capital has a higher marginal product than a generic unit of capital. 3
Critique: The DOT force initiative is the most recent in a line of inappropriate technology
fads. Without the infrastructure to supply a consistent power supply or relatively fault-free
telephone system, efforts to raise interconnectivity will result in wasted equipment.
Response: Substantial gains can be achieved even without networking the entire country.
Introduction of IT into certain key government agencies might enhance LDC welfare too. For
instance, a $1 million investment in Mauritania reducing the customs processing time from 48
hours to 30 minutes, and the time to declare goods, 5 to 20 days down to one or two. A pilot
program in Colombia reduced customs related transactions costs by 40% days (cited in Talero
and Gaudette, 1996).
Critique: E-Commerce is an infeasible proposition for least developed countries; even when
the infrastructure might be able to sustain e-commerce, the lack of computer literacy, the
absence of effective protection for property rights and accompanying legal sanctions, will
constitute insurmountable barriers.
Response: There is some anecdotal evidence indicating the e-commerce can take place even
without many of these pre-requisites existing in full force.
"O A women's weaving cooperative in an isolated village in Guyana is selling its principal
product, hammocks, over the internet for $1000 each.
In Peru, indigenous Ashaninkas use public Internet booths to sell their crafts over the Web.
A man in New York has created an Internet company thorough which immigrants from Ghana
can buy goats for their families and villages back home.
Firms in Africa can now access and bid on procurement contracts tendered by General
Electric." (examples cited in Mann, Eckert, Knight, 2000, p. 178-79).
Additional examples are cited in UN (2000, Box 1).
As indicated by the examples cited above, the fostering of widespread e-commerce is not
amenable to large, top-down investment projects. Even if access is provided, individuals and
firms will not incur the access costs if the benefits of internet use are not made clear to them.
While it is not clear that we know how demonstrate these benefits, Mann, Eckert and Knight
(2000) cite a number of encouraging examples. In Thailand, e-commerce firms have been
incubated through the use of industrial parks; in Morocco and Thailand, internet systems have
been upon previously existing networks of franchises. 4 These small-scale interventions indicate
3
Additional surveys of the impact of telecommunications investment on output, consumer welfare, wages and
income distribution are described in Bedi (1999).
4
Conversation with Catherine Mann (August 4, 2000).
4
that development assistance from a variety of sources can accelerate the adoption of information
and communication technologies in less developed countries.
Critique: Even if e-commerce thrives, attempts to bridge the information gap will founder
upon the lack of technical support for the equipment.
Response. This is a substantive critique. On the hardware and software side, the threat is not
pronounced because the various providers of IT related goods (Cisco, Microsoft) have found it in
their own interest to invest in substantial training programs, so that their equipment and network
systems are properly maintained. 5 However, on the education side, the externalities from
transferring knowledge are so great that the private sector does not have an incentive to invest in
training for the use of IT in educational purposes.
The Japanese initiative addresses this concern by committing part of the $15 billion expenditures
to '[t]he education and training of technical experts to introduce and make use of IT in
developing developing countries." (GoJ, 2000).
5
Conversation with Catherine Mann (August 4, 2000).
5
References
Bedi, Arjun S., 1999, "The role of information and communication technologies in economic
development, " ZEF Discussion Papers on Development Policy 7 (Center for Development
Research, Bonn, Germany, May).
Brynjoffson, Erik and L. Hitt, 1996, "Paradox lost? Firm-level evidence on the returns to
information systems spending," Management Science 42: 541-58.
Canning, David, 1999a, "Internet use and telecommunications infrastructure, Consulting
Assistance on Economic Reform II Discussion Papers No. 53 (Harvard Institute for International
Development, December).
Canning, David, 1999b, "Telecommunications and aggregate output,' Consulting Assistance on
Economic Reform II Discussion Papers No. 56 (Harvard Institute for International Development,
December).
Government of Japan, 2000, "Japan's comprehensive co-operation package to address the
international digital divide," G-8 Kyushu Okinawa Summit. Downloaded from
http://www.g8kyushu-okinawa.go.jp
Group of Eight, 2000, Okinawa Charter on Global Information Society, downloaded from
http://usinfo.state.gov/admin/018/wwwhinfo.html
Mann, Catherine, 2000, "Electronic commerce in developing countries: Issues for domestic
policy and WTO negotiations," IIE Working Paper 00-3 (Institute for International Economics,
March).
Mann, Catherine, Sue E. Eckert, and Sarah Cleeland Knight, 2000, Global Electronic
Commerce: A Policy Primer (Institute for International Economics, July).
Oshikoya, T.W., and M. Nureldin Husseain, 1998, "Information technology and the challenge of
economic development in Africa," Economic Research Papers No. 36 (African Development
Bank).
Talero, Eduardo and Philip Gaudette, 1996, "Harnessing Information for Development: A
Proposal for a World Bank Group Strategy," World Bank Finance and Private Sector
Development Vice Presidency, March. Downloaded from
http://www.worldbank.org/html/fpd/telecoms/harnessing/index.html.
United Nations, 2000, "Development and international cooperation in the twenty-first century:
the role of information technology in the context of a knowledge-based economy," Report of the
Secretary General E/2000/52.
United Nations Development Project, 1999, Human Development Report (UNDP).
6