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The Rise and Fall of Dot.coms - Theories (개인)자료용 글들

The Rise and Fall of Dot.coms - Theories

Economic experts don’t agree on one explanation for the rise and fall of the dot.coms. The three most widely accepted explanations of this phenomenon are the:
  • "Bubble” Theory
  • Complexity Theory, and
  • Economic Cycle Theory.
Bubble Theory

The most popular theory used to explain the rise and fall of the dot.coms is the bubble theory. A bubble occurs when the assets’ prices begin to soar beyond its intrinsic value (Khalid, 2000). Financial bubbles have occurred throughout history. A famous and often cited example is the tulip bubble of 17th century Europe. In the 1630’s, Holland began growing and exporting tulips. These new flowers were eagerly sought after and as demand for them skyrocketed, so did the price. In fact, a single, good quality bulb cost upwards of $1000. It seemed as though every Dutchman was pouring all of his resources into tulips. Even the mayor of Amsterdam resigned his post and invested in the tulip business. As every bubble eventually does, the tulip bubble burst. Tulips that had been selling for 5,000 gilder a few weeks before, all of a sudden were worth a hundredth of that amount. Millions of gilders in investment were lost (MacKay, 1841). Unfortunately, few learn the lessons of history. The end of the 20th century brought with it the burst of another bubble, that of the dot.coms (“Rethinking the Internet”).

Figure 4 - from Mandel & Hof “Rethinking the Internet”
Internet stock started a rapid increase in December of 1998. Word spread that the way to get rich quick was to buy Internet stock and then sell it at a higher. As more and more people wanted to hold Internet stock, the more dot.coms emerged to satisfy that desire.
In an efficient market, the price of a good rises as demand increases and falls as supply decreases. In the case of the dot.coms, this principle seemed not to apply. In 1999, the demand for dot.com stock increased, as did the supply of the stock, yet prices kept increasing. This is because the demand was increasing faster than supply. In essence, dot.coms were emerging merely to satisfy the demand for dot.com stock.
The intrinsic value of these stocks, which is reflected in the price-to-earnings ratio (basically, a firm’s profitability), was no longer used to price the dot.com stock. The prices of these stocks were now based purely on market value without regard to rational thought (Leeds, 2001). People were buying and selling Internet stock without doing any research and only to make easy money. A herd mentality among investors began to set in.
Investors were not the only ones entranced by the prospects of easy money; entrepreneurs were also dazed. Dot.coms starting springing up on a daily basis, but most lacked a solid business plan. Despite this fundamental flaw, as soon as these companies went public, their stock was devoured by the market. Greed was taking over, and as more and more people aspired to make some easy money, stock prices rose higher and higher.
Basic economics states that a market at disequilibria will correct itself (Case, 214). The dot.com stocks were not at equilibrium, and it was only a matter of time before the market would correct. In April of 2000, as the NASDAQ hit a record high of over 5000, the market snapped. Internet stockholders realized that dot.com stocks were overvalued and dumped them, caused excess supply and leading to stock prices cratering. Within a week, dot.com stock prices fell by about thirty percent. For example, eBay, which at its peak on March 31, 2001 was trading at $127, fell in value by 27% to $93 the next week, and is currently trading at $53 (msn.com, 2001).
Though the bubble theory is the most common explanation of the rise and fall of the dot.coms, it is not the only one.
Complexity Theory

Complexity theory is the second theory to be discussed and it builds on the bubble theory. Complexity Theory offers an explanation of the dot.coms that takes the bubble theory one step further. Using this theory, the dot.coms were a complex adaptive system that connected to different areas of sales of their target market. The dot.coms are a series of businesses that create an innovative, new way of generating revenues through the use of the Internet.
Complex adaptive systems have several key characteristics: agents, rich interactions between agents, self-organization, emergent behavior, and co-evolution.
Agents are the elements within a system that interact. The agents in the dot.com system were venture capitalists and investment firms. The rich interaction among the elements means that even the slightest change in the system will change the whole dynamic of the system. The initial interactions in the dot.com system were from venture capitalist funding. As more funding became available, more dot.coms emerged to take advantage of the funding. Illustrated in this example of a dot.com that is going to market play dough, the agents are shown to let us see this interactive environment that they are in. Let us list the agents in this example first: the company employees, the manufactures, the distributors, consumers, advertising agencies, and money.
To understand the self-organization aspect of complexity theory let’s look back at the play dough company. As the company began to form it had to have a way to sell its product, thus a sales force structure emerges out of a need. Further more there is a need to answer questions and give back information, thus out of the sales force a customer service department starts to form. This is what can take place if all the parts of a complex system are there, it’s no longer a static environment waiting for information; it is responding to the changes in an organized fashion. This idea leads into Co-evolution.
Co-evolution of agents means that change in the system is constant and not simply adaptation to the environment and other agents such as those previously mentioned (McDaniel/Driebe, 7). As the play dough customers continue to purchase the product and ask questions and give answers to the customer service department there may be a need for the product development division to work with the customer service department to better their product. For instance the customer calls the play dough hotline, established as a result of the self-organization that occurred, and has comments and makes a request to add color to the play dough and make it non-toxic. Now the customer service department has to be aware of the problem and relay that information to product development.
Now the agents in this play dough company environment are in business and actively making changes. To illustrate the interactions between these agents, let’s look back at the example of an entrepreneur who decides to create a business to sell play dough over the Internet. To seek funding to further his ambitions, he turns to a venture capitalist firm. The firm sees an opportunity to profit and invests in it. Once the company received the first round financing money, it begins to grow and expand. With expansion comes more costs, the company is forced to look for second round financing, which usually comes from the sale of initial public offering stock. By supplying the company with the needed capital, a venture capitalist firm brought the company to the attention of a the market and from within the market came the individual that bought the company’s stock and provided more capital. What has happened this far was just one of millions of possible interactions within the system.
Where self-organization fits into this picture is the most interesting part. It occurs through “patterns of relationships among agents and interactions of these agents with their environments” that leads to the emergence of a new behaviors (McDaniel/Driebe, 6). An example of this organization can be found at play dough company “where a customer’s credit card data is stored, eliminating the need to re-enter the numbers for every purchase” (Reviewing the business model of the four horsement Amazon Section). But what can we call this concept that has come about, it is Emergent behavior. This behavior can be “[a]s the volume of internet sales goes up, prices will come down”, the play dough company has seen it’s sales go up directly in response to the web-site; therefore, they respond by a “Sale” or special to attract attention (Shilling, 78).
As a result of wanting to gain larger market share and more importantly create new wealth the venture capitalist firms responded to the action a more customer friendly company and may in effect decided to create new interactions or modify existing interactions within the company. This is why the interactions are rich because there are so many ways to go and so many people to follow them. In a full circle this rich interactive, emergence of behavior is what explain the idea of a Co-evolving agents. This is where an investor and venture capitalists may learn form the others’ success and failure, or where a new way of doing things may be triggered. The most important concept is to understand that this co-evolution is learning and coming to terms with how to deal with the system and all it’s agents. The agents must interact openly to their environments, meaning dot.coms must listen to their customers in order to remain a robust part of the system. One fact stands out when dealing with the dot.coms “[w]hen money is readily available and no one believes there is any possibility of loss, it will get spent and spent promptly” (Shilling, 126).
Economic Cycles Theory

The economic cycles theory is based on the cyclical trend of economies. All economies go through cycles of expansion and contraction. During expansionary periods, GDP increases, unemployment decreases, and generally, people are happy; contrarily, during a contraction, growth slows, GDP shrinks, and unemployment rises. For example, the 1920s are fondly known as the Roaring 20s, and for good reason. In 1929, after a decade of unprecedented growth, US real GDP hit its peak at $822.2 billion. The GDP the following year only made it to $751.5 billion dollars, and steadily fell for the next five years. Then in 1935, it started rising again. This nation-wide cycle occurs in every economy roughly every fifty years, and also occurs in industries within the national economy.

Figure 5 - from “Venture Capital Slipping”
The dot.coms also went through the stages of an economic cycle. Figure 5 above shows the venture capitalist funding available to the dot.coms (“Venture”, 2001). This funding indicates the number of new dot.coms funded in this period. While funding increased, the number of dot.coms also increased, but as funding topped off during the same period, the number of dot.coms also fell. In the late 1990s, the dot.coms were in their expansionary period. The growth in the industry was phenomenal, and the dot.coms contributed to the low nation-wide unemployment. But following the cyclical trend, growth in the dot.com sector slowed and led to increasing national unemployment.
Economic cycles are influenced by basic human nature (“Theory”, 2001). When something new enters the market and makes money, more sellers enter the market in hopes of sharing the profit. As more and more sellers enter the market, they cut corners to decrease costs, and as they do so, the quality of the good diminishes. As buyers become aware of the lower quality of the product, they stop buying it. So, to encourage people to buy the product again, sellers have to increase quality to lure customers. So far, the dot.coms have gone through about 75% of this cycle.
The first dot.coms to emerge, such as Yahoo.com and eBay.com, had to present the venture capitalists with a solid business plan before they could earn funding. This was because the Internet was unknown territory. These first-comers also made a profit. Other dot.coms, such as Furniture.com and Pets.com, then started proposing faulty business plans in hopes of earning funding and making a profit. But these new dot.coms were not as high quality as the first ones, and so they failed. Now, the dot.com industry is at a stage in the cycle where any new dot.com will have to propose an excellent, solid business plan before it can raise any funding.
According to the economic cycles theory, every economy goes through expansionary and contractionary periods. The dot.com economy was no different than any other, so when all is said and done, it was bound to suffer a period of negative growth.

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