An Empirical Investigation of Information Technology Returns: The Role of IT and Market Structure as Determinants of Efficiency

The impact of information technology on productivity has been debated for two decades. While some studies in the1980s found no contribution of IT to output, more recent studies have found a positive return to IT investment in several industries. However, we have a limited understanding of industry differences in these returns, in particular as to why productivity enhancements in the trade and service sectors, which are ITintensive, have been low. A few previous studies have reported the different impacts of IT on productivity across industries. This paper aims at developing an in-depth understanding of why we witness different IT returns across industries. In our analysis, we find that while the trade sector is more efficient than other industries, the direct impact of IT is masked by the impact of competition on efficiency. This finding provides us with insight not just into why we did not observe productivity gains in the service and trade sectors, but also provides justification for the large IT investment in this sector. We take several different paths to study the impacts of IT. First, we employ the concept of efficiency as an alternative to productivity to capture the impact of IT. This approach allows us to examine the relative contribution of IT and market structure to firms’ efficiency levels. Second, we explicitly incorporate market structure under the behavioral assumptions of imperfect competition and profit maximization to characterize IT returns. We find that a firm’s efficiency is negatively associated with market power while IT is seen to be an enabler of efficiency gains as expected. Interestingly, firms tend to deploy more IT and utilize it better when the market is more competitive. Taken together, our results suggest that market structure as well as IT are strong determinants of efficiency gain. It also explains why IT has different observed impact across industries.