blog Europe’s opportunity in the digital age - Joep Lange Institute

Europe’s opportunity in the digital age

By Onno Schellekens, Jan Luiten van Zanden and Ellen Croes published by ESB

A new type of economy is emerging, in which data and the ability to analyze it form the basis of economic success and political power. This new economy requires the development of an institutional framework in which the property rights of data are clearly defined.

NOTE: Original ESB article published in Dutch and can be downloaded HERE

IN SHORT

  • In both the Chinese state model and the American technology companies, the ownership rights of data are at stake.
  • Clear property rights are crucial in order to fully exploit the wealth potential of the data economy.
  • Europe could, with good property rights, realize the full growth potential of the data economy.

We are moving towards an economy and a society in which information – data – is becoming the most important factor of production and the central source of power and authority.

This new economy raises a lot of questions and challenges for us as economists.

As economists, we are not always happy when it comes to understanding the ‘new economy’ that surrounds us. This began with Adam Smith and Thomas Malthus, who, just as the Industrial Revolution took place, focused on the stationary state that the limited arable land available would impose on the economy. In the 1990s, the emergence of the internet-economy triggered us to develop theories about the ‘new economy’.

Again, we as economists, are in the dark about what it actually means when data become the most important production factor. Our thinking about economy and society is so rooted in physical production processes, that it simply lacks distinctive concepts and images to fathom the ‘new economy’. Whereas in the nineties optimism dominated on the basis of the unlimited possibilities of the worldwide internet, nowadays the mood seems to have been shifted and dystopias dominate, like The Circle, in which Dave Eggers paints an Orwellian future, dominated by a big tech company, or black diagnoses like in Shoshana Zuboff’s The age of surveillance capitalism (2019).

It is risky to speculate now on the significance of the new digital economy that has emerged in recent decades. But everything points to the fact that in the future, more than now and much more than in the past, political and economic power will be based on access to large data files and on the ability to analyze them quickly and in detail. This influence will extend to an ever wider range of human activities – for example, it will also influence elections and purchasing behavior while government policy will be ‘nudged’.

From an economic-historical point of view, this paper makes a number of remarks about the transition we now seem to be undergoing towards a digital, data-driven economy.

Data-economy

Information and the way it was disseminated has always been fundamental to economic and political activities. The first farmers studied the course of the sun, moon and stars to see the best time for sowing and harvesting. Seafarers also used the same information from the early Middle Ages onwards to arrive at a positioning with the help of an astrolabe. Merchants have always collected data on the prices of products i various markets in order to make their transactions as profitable as possible. Information has always been the underlying driving force in economy and society. The flows of matter and energy were and are subordinate to those of information, and in this sense the picture we now have of the old economy – in which we are mapping money and product flows but not the underlying information flows – can also be improved.

Today’s transition concerns the concentration of information. The old economy was largely based on the fragmentation of information and on the profitable ‘overcoming’ of transaction costs. Data was spread all over the economy: consumers each had their own preferences, entrepreneurs their own possibilities, governments their own plans and ambitions. And the same was true for institutions such as banks, who not only collected savings but also managed to identify information and profitable transactions based on that information, with the core aspect of monitoring the access to that information (Dang et al., 2017). The market was the mechanism that brought this dispersed information together, coordinated decision-making and aligned the plans of all parties.

In a similar way, the imperative of the democracy was that information about which political policy would offer the best outcome should be equally distributed among the population, making elections the means to arrive at a selection of policymakers in relation to electoral preferences. In short, the open society as it has developed over the past two hundred years is deeply rooted in the idea that crucial information – among citizens and businesses, among civil society – is present. As a result, not only was the scope of information a condition for the emergence of representative democracy (which therefore only became possible with the technological changes of the nineteenth century), but also its decentralized, non-excludable character.

Towards centrally collected information

However, the fragmentation of information is rapidly diminishing. Over the last forty years it has become increasingly possible to collect and analyze data centrally. Driving forces behind this are the Digital Revolution that has revolutionized the storage of data, the Internet that makes an apparently almost free exchange and appropriation of data possible (seemingly because the costs of the necessary infrastructure and energy consumption are not visible in the current ‘free’ data harvesting model), the ever cheaper processing capacity (Moore’s well-known law), and the development of smart algorithms to analyze data on a massive scale.

This revolution in the bundling of information has taken physical form via the SIM card and the smartphone. The invention of the SIM card has made it possible for everyone to be reachable as a person at ever lower connection costs. Nowadays you can call the whole world via WhatsApp at no extra cost, made possible by the fact that the same SIM card has been in a small computer, the smartphone, since 2007. Moreover, compared to versions at its launch in 2007, that smartphone is now many times more powerful.

The combination of smartphone and SIM card all the transactions “personal”- everything we search, order or pay, everywhere we drive, everything we watch, listen and read, and all forms of communication calling, chatting, skyping and emailing are being recorded. Virtually free of marginal cost, this personal data is collected continuously in exchange for seemingly free services.

With this personal information, the tech companies have gained an unparalleled grip on the data of current generations, and thus insight into our behavior. They know what we see, investigate how and when we drive and who we chat to, call, email. And if the experiments with digital money ‘spent’ by the tech companies succeed and we are unable to control the use of these forms on an individual level, they also know all our financial transactions. In short, the tech companies have built up an unparalleled knowledge base that is growing by the day.

From the government’s perspective, the ICT revolution also means that the illusion of Soviet planners of the last century – the notion that central planning could be superior to the free market if all information could be made available centrally – is coming closer in a practical sense, thus inviting collectivist control. And these aspirations are not only valid in an economic sense. The Chinese government does not see any point in using individual data as a means of conditioning social behavior as desired by the state. The quantitative and qualitative leap in the information-economy described above actually changes everything – it affects the foundations of democratic society as well as those of the market economy.

Property rights

The transition to a digital, data-driven economy is historically unique and difficult to fathom. However, an analogy with the emergence of the market economy shows that property rights are crucial to reap the full benefits of development.

North (1989) has shown in classical analyses that the fundamental problem of exchange has long stood in the way of the emergence of the market economy. Cooperation via the market was in fact structurally limited by the lack of trust in the institutions that regulated market behavior. Property rights were not protected, especially in feudal or absolutist regimes, so that market participants were not sure whether they could reap the benefits of their investments – or whether they would be severely skimmed off by a sovereign with unlimited rights. It was only when the power of the monarch was restricted by parliament (which according to North happened in England after 1688) that this fundamental problem of exchange was solved, and that market participants were able to specialize and thus make themselves dependent on the outcome of exchange via the market. Clear proprietary rights and institutional preconditions were therefore needed, which defined the rights and obligations of market players and the state, in order for the market economy to flourish and the Industrial Revolution to take off.

In the new data economy, there also seems to be a fundamental problem of exchange. Property rights are unclear and the exchange that takes place between data producer and technology company is not clearly regulated. As a result, the welfare gains of the new economy are not yet optimal.

Market Parties

The ‘exchange’ that is currently taking place on a large scale is an exchange between consumer and tech company with closed stock exchanges, in which the consumer for the use of internet services – including Facebook, Google, Amazon – gives data about his or her behavior, interests and preferences to the tech company. The two transactions that overlap are the sale of the service by the tech company on the one hand, and the supply of data by the consumer on the other (Van Dijck et al., 2018). The consumer can restrict this transfer via privacy settings but loses part of the functionality or even access as such. The business model of the company consists of making a profit by collecting and analyzing data, and selling related products, or otherwise using the data commercially.

But this exchange is very opaque. It is unclear who owns the property rights on the data generated by the consumer with their buying behavior. More generally, this type of exchange is a feature of an underdeveloped market, and leads to a sub-optimal use of each other’s services because there is no price formation for both transactions.

When the market economy came into being, similar practices arose – farmers who, for example, leased land and had to work for the landowner, or homeworkers who also depended on credit from a merchant. All these forms disappeared under the influence of further commercialization, as the various markets that were linked to each other evolved, so that each transaction became independent.

In the current exchange between consumer and tech company, the essence is that property rights are not properly regulated either – it is not clearly established who owns the data that is generated, but de facto the tech companies claim them.

The lack of clarity of property rights and, linked to this, transactions leads to distrust – a feeling that has increased sharply in recent years as a result of all sorts of scandals. Because people are not confident that the data produced will be used in the public interest – but think that they will only serve the interests of a few tech companies – they will become reluctant to cooperate in building up these databases (in the same way that farmers in the Middle Ages were often reluctant towards the market). As a result, the growth potential of the data-economy remains underused.

Institutions are therefore needed that guarantee that this data exchange serves the public interest and not just the interests of tech companies. The discussion about the data-economy should primarily be about ownership – privacy is only a derivative of this.

The State

The state is also a major player in the digital-economy, not only because it ultimately has to create the institutional framework conditions for market-based exchange, but also because it itself creates, analyses and uses data files on a large scale for policy, to influence behavior or to control the population.

In China in particular, the state plays a steering role in the development of these data files in order to further strengthen the central power. A successful expansion of the data-economy without the necessary countervailing power will soon turn out to be a 1984-scenario due to the temptations of government control.

If North’s logic is correct and historical behavior is a measure, the central role of government, especially in China, means that the digital economy will not reach its potential, as citizens will anticipate the state use of their data and will not willingly participate in a state-led data-economy (Ma and Rubin, 2019).

In short, in order to fully exploit the potential of the data economy, institutions are needed that guarantee that data collection serves the public interest within conditions of fundamental rights, and not that of the state or of temporary majorities. Without guarantees and far-reaching public control, there is a great temptation to link data and use them in a steering manner.

New institutional constellation needed

Application of North’s analysis suggests that in the case of the data-economy there are two ‘sub-optimal’ models in the current institutions: the state-led ‘Chinese’ model (even when that role is hidden behind completely conditioned companies such as Baidu, Alibaba, Tencent or Huawei) and the ‘American’ model in which the big tech companies are the dominant players.

Under both institutional constellations, the new data-economy is not developing to its full potential because the benefits accrue largely to a small group of companies or the state. In the Chinese model there are also far-reaching political effects.

Third Way

The question is whether it is possible, for example in Europe, to develop an institutional framework in which the property rights of data are clearly specified, in which the benefits of the new economy are widely spread, and in which the supervision on production is democratic and the use of data is individually regulated, so that (Van Dijck, 2019).

Such a third way could be inspired by the way in which the welfare state was created in Europe and still functions to a large extent. The state plays a coordinating role as director, but private parties (with or without a profit-orientated brand) such as insurance companies, pension funds, private clinics and hospitals play an essential role in many areas.

In this set-up, the large data files would, for example, be held by public-law organizations, which could make controlled use of them. As in the American and Chinese models, consumers make use of the tech company’s software – which could even be a foreign partner, such as Facebook or Amazon. But the data generated in this way is not collected and used by these companies, but stored by organizations that can use this data (or have it used) by the state and by companies that pay for it, according to democratically legitimized procedures.

Another way could be to decentralize the collection and management of data, with each organization taking care of its own careful management according to pre-established and democratic, controlled arrangements. By thus separating the process of data collection from the acceptance of terms of use for products, the problem of the link between recognition and exclusion of access should also be resolved.

Independently of the exact path, such a hybrid model could be democratically controlled, and the rules of the game could be geared to controlled use of the data by the market and the government. As this model makes effective use of the social capital available in Europe, it creates the conditions for much greater value creation using the new technologies. In this way, the growth potential of the data-economy can be fully exploited.

Needs

The key question is how we can arrive at a European ‘third way’. First of all, we must determine who owns the property rights to the information and lay down that right in a way that undoes the fundamental problem of exchange and applies internationally.

Equally important is the task of gaining insight into the structure of the data-economy – at a national, European, and global level. Who produces what data, and who is going to use it? What kind of data are there, and how valuable are they?

The business model of Facebook or Google is that we can use their services free of charge in exchange for the data we produce as we do so. As a country, for example, this raises the question: are we currently exporting data on a large scale – and are we becoming dependent on data collected by the large IT-companies?

At the moment we do not know this, because the free services provided by the companies do not end up in the national accounts as added value. In the same way, due to the lack of a good valuation basis, the value of the data available at companies escapes our statistical methods. The standard way of mapping the economy – the system of national accounts – is therefore flagrantly failing here: it cannot deal with the new situation in which data becomes the most strategic production factor.

We thus need to also review the way we map the economics. It is impossible to develop targeted policies or take broader collective action if the facts are not clear. But the key question is of an institutional nature: how do we design a democratic (in the fundamental sense of economically and politically equal) variant of the data-economy? This question raises follow-up questions. How do we price personal data that has a serious economic value which is collected at low to no cost by the companies and services we interact with? How do we develop institutions that make it possible for the data we all produce free of charge to be used in a controlled way for the common good? And are we capable of reversing the tendency that seems to be undermining the open society? How can we counter the centralizing tendency of the new data economy?

Good starting position

Developing a third way to deal with the digital economy is a major challenge. Nevertheless, we in Europe may have more scope for influence than we think. The American companies that now dominate the market need us – the users and the state that organizes and regulates the markets and secures the contracts. And they are getting used more and more to national states and the institutions of the European Union setting and enforcing rules – the dream of the Internet as a global village is already far behind us.

If Douglass North is right, tinkering with the system will result in a set of institutions that will help to establish confidence in the new data-economy. And this makes it possible to fully exploit its potential – something that current competitive models fail to do. This requires not only the invention and introduction of new rules for the social game, but also the questioning of the rules of the game.

The implementation of the third way requires a public debate on its necessity and form. It is true that Europe is not at the forefront of accommodating the data economy in any form at the moment. But with the right institutions, this backlog can be turned into an advantage, based on the existing social capital.

The question is whether the national or European political order is capable of such a fundamental reorientation. It seems wise to us to, at the very least, include the fundamental problem of data ownership, pricing and exchange in the new economy in the efforts of Vestager, the new EU Commissioner for Competition, to make Europe fit for the digital age.

NOTE:  The views expressed in this article on economics and healthcare is from our JLI lens. We are not opposed to public services. From our experience, many of the subsidies we see don’t make it to the extreme poor because they can’t be reached. We believe public services are a force for good and our aim is to push for more inclusion for everyone.
We are aware that there are many perspectives and hope to ignite discussion around these topics.
We welcome your opinions. Please share at info@joeplangeinstitute.org.

 

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