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McKinsey's Mistakes      McKinsey & Company's misleading IT productivity report will only do further harm to businesses and consumers. By Paul Strassmann October 18, 2001

As the demand for Silicon Valley products and services falls precipitously, the IT industry needs to be on the lookout for any developments that could reverse this trend. The danger is that the former euphoria about computers will now be displaced by a depressive distrust of spending more money on information technology.

The 350-plus page McKinsey report deserves attention because it delivers so far the most comprehensive study about the economic impact of IT. The report will be widely read and cited. It will influence corporate policy guidance to IT staffs and shape IT budgets.

The purpose of this column is to comment on the McKinsey report from the standpoint of US business executives. The question is this: What is the likely effect of the McKinsey report on Silicon Valley customers?

I agree that the report correctly contradicts the (until recently) generally accepted views of almost all economists and policymakers about the highly favorable contributions of IT to productivity. Nevertheless, I object to the message that the McKinsey report delivers because it will damage the immediate prospects of the IT industry and will not contribute to improving the practice of IT management.

Three objections

1. The report: The McKinsey report associates IT productivity growth with economic sectors (such as retail, wholesale, securities, telecommunications, semiconductors, and computer manufacturing). The report then dismisses productivity gains in 53 other economic sectors.
   Objection: Productivity gains from IT are firm-level specific. They are not a generalized attribute of any one economic sector. One can find abysmal failures in the application of IT among retail firms. One can also find spectacular gains in the steel industry.
   Conclusion: The McKinsey report is misleading in that it shifts the explanation for the payoff from IT investments from the arena of an individual firm (or even an operating division) to the economics of an entire industrial sector. It will offer many IT executives a ready excuse for not being able to explain the economic benefits from billions of dollars spent on IT. Such conditions will inhibit further IT investments.

2. The report: The general conclusions of the McKinsey report is that IT has not delivered previously claimed productivity gains. This is based entirely on admittedly inadequate or even contradictory government economic statistics. Thus the McKinsey report arrives at its conclusions with the identical data that were used by Alan Greenspan and other economists (meeting in April 1999) to assert that IT was the engine that would assure remarkable further productivity gains.
   Objection: Only corporate-level financial reports are sufficiently reliable and consistent for judging actual productivity gains. Other than offering anecdotal cases or descriptive information, the McKinsey report is not based on a sufficiently large sample of original data. It does not offer insights about patterns of success or failure to make it useful.
   Conclusion: The McKinsey report does not offer business executives an understanding of the "computer paradox" other than by making references to managerial and technological innovation or a superior business model. This could be seen as an inducement to yet another consulting engagement to justify further postponement of investment decisions.

3. The report: The McKinsey analysis is flawed from a corporate standpoint in that it concentrates on an obsolete view of labor productivity (as measured in labor hours per capita or in terms of persons employed in production). Corporate management examines the contributions of IT from the standpoint of contribution to profits.
   Objection: Corporate management makes economic investment decisions based on cash flow that includes compensation as well as the total cost of capital, including depreciation. Since salaries in some sectors (such as banking) rose much faster than revenue, headcount-based ratios are meaningless. Rising outsourcing of services also makes the man-hour statistics unreliable. Lastly, extremely rapid depreciation of computer assets becomes a significant element of cost and must enter into all productivity analyses.
   Conclusion: Without an opportunity to examine the details behind the McKinsey report, its findings are likely to be misapplied in the setting of IT budgets and inhibit further growth. Corporate management does not equate sector productivity results -- such as those measured by the Bureau of Labor Statistics or the Bureau of Economic Analysis -- and profit expectations.

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