98-2 Planning Report The Economics of a Technology-Based Service Sector Prepared by: TASC, Inc. for National Institute of Standards & Technology Program Office Strategic Planning and Economic Analysis Group January 1998 U.S Department of Commerce Technology Administration THE ECONOMICS OF A TECHNOLOGY-BASED SERVICE SECTOR January 1998 A Planning Report for: NATIONAL INSTITUTE OF STANDARDS AND TECHNOLGY Program Office Strategic Planning and Economic Analysis Group Prepared by: David P. Leech Albert N. Link John T. Scott Leon S. Reed Approved by: John F. Starns James J. Lindenfelser TASC, Inc. 1101 Wilson Boulevard Suite 1500 Arlington, Virginia 22209 Acknowledgments The study effort reported here benefited greatly from the participation of Daniel Berg (Rensselaer Polytechnic Institute), Eric Brynjolfsson (Massachusetts Institute of Technology), Lorin Hitt (University of Pennsylvania), Lori Perine (National Institute of Standards and Technology), John Perko (CHI Research, Inc.), and Gregory Tassey (National Institute of Standards and Technology). ii TABLE OF CONTENTS Page EXECUTIVE SUMMARY............................................................................................. ES-1 ES.1 Introduction ............................................................................................... ES-1 ES.2 Technology in the Service Sector ............................................................... ES-2 ES.3 The Technology Landscape........................................................................ ES-4 ES.3.1 Retail Banking ............................................................................... ES-5 ES.3.2 Home Entertainment...................................................................... ES-6 ES.3.3 Health Care ................................................................................... ES-7 ES.4 The Technology Infrastructure ................................................................... ES-8 ES.5 Barriers to Technology Development and Use............................................ ES-10 ES.6 Key Service Sector Technologies ............................................................... ES-12 ES.7 The Private Sector Response to Technology Barriers ................................. ES-16 ES.8 The Public Policy Response: Over-Arching Issues ...................................... ES-16 ES.9 The Public Policy Response: Engaging the Service Sector .......................... ES-18 ES.10 Improving Policy Analysis: Lesson Learned................................................ ES-20 1. INTRODUCTION ............................................................................................... 1 1.1 Purpose...................................................................................................... 1 1.2 The Service Sector is the Largest, Fastest Growing Sector of the U.S. Economy............................................................................................ 2 1.3 The Role of Technology in the Service Sector ............................................ 4 1.4 The Technology Infrastructure ................................................................... 6 1.5 The Technology Infrastructure of the Service Sector .................................. 10 1.6 The Outline of the Report........................................................................... 13 2. SOURCES AND USES OF TECHNOLOGY IN THE SERVICE SECTOR ... 15 2.1 Alternative Sources of Technology............................................................. 15 2.2 Focusing On Information Technology (IT) ................................................. 15 2.2.1 Existing Literature.......................................................................... 15 2.2.2 Other Systematic and Quantitative Data.......................................... 17 2.3 Technology Flows into Service Industries................................................... 19 2.3.1 An Estimate of “Imported” Information Technology....................... 19 2.3.2 Making Information Technology Work........................................... 21 2.4 The Strategic Intent of IT Purchases .......................................................... 22 2.4.1 The Strategic Importance of IT to Service Sector Firms.................. 22 2.4.2 New Information Technology Performance..................................... 23 2.5 Conclusions................................................................................................ 24 iii 3. THE CONCEPT OF MARKET FAILURE AND ITS APPLICATION........... 27 3.1 Introduction and Overview......................................................................... 27 3.1.1 Overview of Market Failures .......................................................... 27 3.1.2 Sources of Market Failure: Discussion and Examples of Barriers to Technology..................................................................................... 29 3.2 Technical Performance: A User Perspective On Technology Barriers......... 36 3.3 Public Support of the Technology Infrastructure ........................................ 39 3.4 Conclusions................................................................................................ 41 4. STATISTICAL ANALYSIS OF ECONOMIC PERFORMANCE AND MARKET FAILURE IN THE SERVICE SECTOR ........................................................... 42 4.1 Introduction ............................................................................................... 42 4.2 Investments in Information Technology: Analysis in Brief.......................... 44 4.2.1 Quantifying the Barriers to IT Investment ....................................... 44 4.2.2 Quantifying the Strategic Response to IT Barriers........................... 45 4.3 Investments in Information Technology...................................................... 47 4.3.1 The Empirical Model ...................................................................... 47 4.3.2 The Data and Empirical Results ...................................................... 50 4.4 Collaborating in Research: An Indication of Market Failure ....................... 53 4.5 Appropriating Technical Know-How: An Indication of Market Failure....... 57 4.6 Conclusions................................................................................................ 61 5. CASE STUDY: BARRIERS IN TECHNOLOGY DEVELOPMENT AND IMPLEMENTATION IN THE RETAIL BANKING INDUSTRY ....................................................................................................... 62 5.1 The Significance of the Retail Banking Sector ............................................ 62 5.2 The Nature of Retail Banking Today .......................................................... 63 5.3 Major Competitive Issues........................................................................... 65 5.4 The R&D Function in Banking ................................................................... 67 5.5 The Technology Landscape........................................................................ 69 5.6 Barriers in Technology Development and Implementation .......................... 74 6. CASE STUDY: BARRIERS IN TECHNOLOGY DEVELOPMENT AND IMPLEMENTATION IN THE HOME ENTERTAINMENT INDUSTRY .... 78 6.1 The Significance of the Home Entertainment Sector ................................... 78 6.2 The Nature of Home Entertainment Today................................................. 79 6.2.1 Terrestrial Broadcasting.................................................................. 82 6.2.2 Cable Television ............................................................................. 84 6.2.3 Satellite Communications................................................................ 86 6.2.4 Cellular/Personal Communications Services (PCS).......................... 86 6.2.5 Telephone Communications............................................................ 88 6.2.6 Motion Picture and Video Tape Production .................................... 88 6.2.7 Newspaper Publishing..................................................................... 90 6.3 Major Competitive Issues........................................................................... 91 iv 6.4 The R&D Function in the Home Entertainment Industry............................. 93 6.5 The Technology Landscape........................................................................ 95 6.6 Barriers in Technology Development and Implementation .......................... 103 7. CASE STUDY: BARRIERS IN TECHNOLOGY DEVELOPMENT AND IMPLEMENTATION IN THE HEALTH CARE INDUSTRY ............... 108 7.1 Introduction ............................................................................................... 108 7.2 The Size and Significance of the Health Care Sector................................... 108 7.3 The Nature of the Health Care Industry Today ........................................... 110 7.4 Major Competitive Issues........................................................................... 112 7.5 The R&D Function in Health Care Services................................................ 114 7.6 The Technology Landscape........................................................................ 116 7.7 Barriers in Technology Development and Implementation .......................... 121 7.7.1 Types of Barriers and Their Impacts ............................................... 121 7.7.2 Investment Impacts of Barrier Removal .......................................... 123 7.8 Summary...................................................................................................