In August 1995, Netscape held its initial public offering and caught the attention of every participant in computing and communications. It was a catalytic event for the commercial Internet, and it started the beginning of a long boom in investment by private firms, households, entrepreneurs, and venture capitalists.
With the 20th anniversary approaching, it’s time to look back on events and highlight the big lessons. This column summarizes some of what these events teach us about the economics of market structure and creative destruction. Later columns will examine additional economic insights. This column will focus on the key phrase “innovation from the edges.”
By the way, these insights come from a book scheduled for release in October 2015, titled How the Internet Became Commercial: Innovation, Privation and the Birth of a New Network (Princeton University Press). Yes, I wrote the book, so this column is a sneak peak at part of it.
Innovation from the edges
As it developed, the Internet of the early 1990s would have seemed ill-suited for a commercial life later. The National Science Foundation managed an Internet that lacked market-oriented focusing devices and economic inducement mechanisms. It was not a setting that induced market actors to direct efforts toward the most valuable innovative outcomes.
There were contracts for carrier services between government buyers and commercial suppliers, for example, but no general market orientation toward the pricing of the exchange of traffic between carriers. The applications were not for sale, nor did anybody design the applications with mass market use in mind. They developed inside research laboratories that met the needs of a niche community. The primary community of participants desired technically advanced functionality and tolerated considerable imperfections to achieve those advances. That hardly seemed like a propitious beginning for a new transformative mass-market communications network.
Looking back on these events with a wide lens, it is now possible to ask, why did the privatization of the Internet turn out so well? How could such an event unleash a wide and profound set of economic outcomes?
The answer involves “innovation from the edges”—multiple perspectives originating from multiple places in an industry with little or no concentrated decision making. Innovation from the edges played an important role in all the key events.
The commercialization was shaped by a diversity of viewpoints. The design of the Internet met the needs of several different groups who funded it and who participated in its design.
The commercialization of the network enabled participation from entrepreneurs with a variety of perceptions about the value of the economic opportunity and how best to build businesses to address those opportunities. The opportunities also were larger than any single firm could pursue or would have pursued, so a variety of approaches thrived for a sustained time period.
Originating from multiple places
Resources from many locations were directed toward building the commercial Internet. These were researchers in laboratories, administrators in various organizations, students at universities, engineers at equipment-making firms, and suppliers of complementary services, to name a few. It did not involve just one participant or one place.
A set of institutions was adopted to encourage inventions arising from many participants—both before and after privatization of the Internet. The commercial network also accommodated applications from multiple participants in many locations. Especially after privatization, commercial efforts extended the scope of the network far away from what any single firm would have pursued had it performed R&D by itself.
Lack of concentrated decision-making power
Several factors enabled dispersed decision making. Authority for technical improvements was not centralized within one firm or organization. No single entity or decision maker coordinated the Internet for an extended time with a single economic interest as motive.
Even the standardization committees developed unrestricted access to their designs and did not restrict their uses. These same committees also maintained processes that did not restrict who could contribute additional improvements. Especially after privatization, competitive markets fostered commercial activities by more than one firm, and virtually every opportunity, from the largest to many small applications, received attention from many suppliers.
Innovation from the edges enabled exploratory activity. Demand for new value created different opinions about the appropriate actions to take.
Yet not every participant perceived the value of the opportunities in the same terms, or possessed the same set of assets for taking advantage of the opportunities. Decentralized decision making was better at permitting a variety of experimentation than a central decision-making process. There were minimal barriers coming from the limitations affiliated with departing from the prevailing view, competing with an established firm, or approaching an opportunity that others had not perceived.
All these factors reinforced one another, and the sum total of all this market activity addressed uncertainty about value by innovating much faster and with greater success than any single organization ever could have.
Why did it happen?
There was nothing inevitable about the rise of innovation from the edges. Some economic behavior encouraged it, but not all did.
One important aspect of the historical experience was the way events reinforced one another at a market-wide level. For example, lack of concentrated decision making and dispersed technical leadership fostered a variety of inventions, contributed to greater competitive conduct from more suppliers, and nurtured a great variety of economic experiments.
The Internet platform fostered decentralized, independent decisions, which nurtured various inventive specialists and, as it happened, enabled the invention of applications that spawned even more follow-on innovation.
Three surprising observations emerge from this summary at this point. The first has to do with the symbiosis between coordinated collective efforts—in particular, the design of standards—and the emergence of innovation from the edges. For example, the design of TCP/IP came from a very coordinated process that enabled many uncoordinated inventive specialists.
As another example, upgrading TCP/IP in the Internet Engineering Task Force was much more of a collective effort, and with the additional investments in applications, it evolved into something no single designer could have imagined. It too enabled many uncoordinated inventive specialists.
The initial design of the World Wide Web also fits this paradox. It came from one software programmer, and later his consortium. It too became something bigger than any one individual could have imagined, especially once it grew into a large platform upon which others built their applications.
Wi-Fi also initially emerged from a coordinated collective effort at designing a standard. It too evolved into a range of valuable applications no individual could have designed in advance, building on a range of experiments by wireless access providers.
The second surprising observation has to do with the lack of coordination behind creative destruction. There was no invisible hand automatically guaranteeing that market events would become either creative or destructive. On the one hand, events were consistent with the classic frameworks of creative destruction: entrepreneurial outsiders innovated, and existing firms innovated in response to entrepreneurial innovation from outsiders. Yet that is too simple a characterization.
The same events that motivated innovative behavior also motivated defensive resistance and attempts to control competitive events. The process of creative destruction emerged only after the failure of attempts at defensiveness by established firms, and failures in the attempts to control competitive processes. Competition triumphed and became overwhelming, involving a wave of entrants and the sum of many actions. In short, creative destruction emerged endogenously because established firms were ineffective at manipulating the competitive process to slow down entry.
A third surprising observation emerges from this summary, and the column will end with it. During the deployment of the commercial Internet, low frictions shaped exploratory activities, and that affected multiple participants simultaneously.
A friction refers to two related activities: the nonmonetary cost of designing and setting up procedures to deliver a new service or innovative product, and the nonmonetary cost of executing a set of proscribed processes and procedures for delivering services to users—specifically, the nonmonetary costs of employing personnel to gain technical knowledge and the hassles of addressing and managing delays, lost output, and other events for which no secondary market exists.
Low frictions encouraged innovation and helped make it cheaper to learn in markets than in a structured laboratory when the most valuable direction of change remained unknown. From users experimenting in markets, value creation emerged from novel combinations of demand fulfillment and operations from multiple vendors combining their complementary services in new ways for mass users. That led to insight that no expert could cull easily from an experiment in a lab or an interview of a few survey takers.
More to the point, low frictions supported creative destruction led by many entrepreneurs. Low frictions helped reduce the maddeningly difficult activities of establishing new firms at early stages, speeding up the emergence of a wave of new creative and destructive entrants. Any reasonably thorough case study of the processes behind entrepreneurially led innovation at the time emphasized the frustration, confusion, and utter plethora of loose ends experienced by an entrepreneurial enterprise, even one with ample funding and adequate managerial experience.
A very similar set of observations shaped established firms engaged in exploratory activity. Low friction behind exploratory activity allowed economic archetypes to work devastatingly quickly, at a large scale across many firms at nearly the same time. That helped propel entrepreneurial activity into a catalyst for innovation from established firms.
Think about that. Collective effort helped foster creative destruction, and so did the presence of low frictions. That would upend any market, and it did so in data communications markets. Twenty years later it still seems unbelievable.
Copyright held by IEEE Micro. Original essay is here.