RISE OF THE MACHINES (Part I): HOW THE THIRD INDUSTRIAL REVOLUTION CAME ABOUT

In his article "Rise of the Machines: Downfall of the Economy" economist Nouriel Roubini tells us that technology may not be making us all better off.

Roubini argues that even if technology is making us more productive and offering us more choices that the market rewards from increased productivity are unnecessarily skewed. The real financial beneficiaries of modern technology are the moneyed elite, and those with a specific set of increasingly difficult to obtain resources, skill sets, and education.

Worse, as technology increases productivity, fewer hands are needed to produce our new electronic toys so wages don't necessarily need to climb - or "magically" increase - as output increases. So, contrary to what free marketeers like to claim, there is no automatic trickle down effect. A rising sea doesn't lift all boats.

To make his point Roubini - one of the few economists who called the 2008 market collapse - walks us through a bit of history, and discusses how the technological revolution has changed our lives.

HOW MODERN TECHNOLOGY HAS ALTERED OUR LIVES
While Roubini doesn't give specific dates, the technological revolution he's talking about was cold war inspired and began in 1947. It was at this time that transistors began replacing vacuum tubes in our electronic gadgets. After making the jump to transistors came an explosion of technological innovations built around the offspring of the transistor, the integrated circuit - or the microchip.

Our electronic gadgets haven't been the same since.

Where the First and Second Industrial Revolutions involved the efficient transformation of heavy metals and other materials for mass consumption, the real key was how they created a 9-5 culture built around industrialization and the rise of Hydrocarbon Man. Heavy machinery and a petroleum based economy dominated our world from the 18th through the 20th centuries.

The Third Industrial Revolution is changing all of this. Apart from transforming the electronics industry, we have seen how computers, instant communication, robotics, and 3D printing make our lives more flexible, easier, and productive.

We now have 24 hour news channels, 24 hour stores, and round the clock manufacturing that's created a culture distinct from the First and Second Industrial Revolutions.

To be sure, with the Third Industrial Revolution we may have lost some of the 9-5 culture and stability that was built around the blue-collar assembly lines. But we need to remember that the charms of the horse and buggy era had to give way to the conveniences and leisure of the automobile. Today, like it or not, we are exposed to a world transformed by mass information, industrial automation, and convenience services (e-shopping, ATM / home banking, e-books, etc.) that we couldn't dream about when it all began in 1947.

All of this has been made possible by advances in computer technology.

My kids would probably freak out if they saw people running up to care for our car(s) like this. 

With the exception of Oregon and New Jersey, we pump our own gas with little if any human interaction.

Put another way, the world we live in today may be missing some of the charms from yesterday, but we also have more conveniences and are offered more of everything. Along with this we are learning that a whole new set of skills are necessary to succeed than was the case when the Third Industrial Revolution began almost 70 years ago.

What makes these developments so profound, observed business guru Peter F. Drucker as far back as 1986, is that they aren't temporary changes. They are structural, irreversible, changes that are altering the rules of the economic game. While Drucker (and others) saw a world that we could all benefit from, Nouriel Roubini sees potential trouble around the corner.

Before we discuss where Drucker and Roubini differ (and converge), some background on the Third Industrial Revolution is in order.

ROOTS OF THE REVOLUTION: THE SILICON VALLEY & THE COLD WAR
While many like to believe otherwise, the era of the microchip and the Third Industrial Revolution isn't just about entrepreneurialism and investment capital magically gravitating to the right place at the right time. The technological leaps that were made in the 1950s and 1960s were a direct result of the cold war, the space race, and government investments. Without these intertwined developments the groundwork for the Third Industrial Revolution would have been delayed, or never happened.

More specifically, after the Soviet Union launched Sputnik into space in 1957 it was suddenly clear that in spite of developing the atomic bomb first the U.S. was not the technological leader of the world.

A scale model of Sputnik.

This was a shock to America's free market psyche. The U.S. would have to act fast if it was going to catch up to the Soviets. Only it wasn't going to be America's much touted capitalists leading the charge.

President Eisenhower understood the ramifications of Sputnik immediately and established the National Aeronautics and Space Administration (NASA). For their part the U.S. military focused on building intercontinental missiles. Suddenly, the U.S. needed equipment that could leave the earth's atmosphere and come back without bursting or melting during re-entry.

The standard vacuum tube transistors used by the private sector in the 1950s - which were little more than "glorified lightbulbs" - suddenly became obsolete in a cold war context. What was needed were advanced and high quality energy transmitters. While the price of these new transmitters were too expensive for the private sector, the cold war and defense needs of the U.S. created an entirely new "market."

Newly founded Fairchild Semiconductor would reap the benefits of the Sputnik induced space race.

Under the leadership of Robert Noyce, Fairchild Semiconductor became the first company to demonstrate that it had the ability to mass produce silicon transistors that met the quality levels demanded by the U.S. Air Force (who had orders through IBM). Founded in Mountain View, California - now the heart of the Silicon Valley - Fairchild Semiconductor produced 100 silicon transistors in 1958.

Each semiconductor unit cost $150 each (about $1,500 today). While this was about 30 times more expensive than transistors then in use, the U.S. government didn't flinch. The U.S. was engaged in a global ideological battle, where the world had to see that whatever the Soviets did the U.S. could do better.

Private sector cost models held no weight when it came to national security needs during the cold war. This was the genesis of the Third Industrial Revolution.

Fairchilds next big breakthrough would be the integrated circuit, or the microchip. At $120 per unit the integrated circuit (or microchip) was still too expensive for everyday use by private industry. But, once again, with the cold war in full bloom and the Apollo program on the horizon, the U.S. government was there to provide the market demand necessary for Fairchild to sell its wares, and make money.

One of the numerous types of integrated circuits.

To be sure, Texas Instruments was the first to produce an integrated circuit. But it was Fairchild who used a different design and process to create a product that actually worked according to NASA's specifications. While a lawsuit would be filed by Texas Instruments against Fairchild, the industry continued to progress. Ultimately both TI and Fairchild would share licensing arrangements (52:00), and the needs of the NASA and the U.S. military would be met.

With NASA purchasing 60 percent of the expensive integrated circuits produced in the United States (57:45), Fairchild became a major supplier. In 1964 alone it supplied at least 100,000 circuits to the Apollo mission (58:00), while "the federal government bought virtually every microchip firms could produce."

After 1964 mass production and competition for government "market" share continued to lower costs, which allowed the private sector to embrace the silicon era as they began using microchips in their products. According to one source:

... NASA bought so many [microchips] that manufacturers were able to achieve huge improvements in the production process - so much so, in fact, that the price of the Apollo microchip fell from $1000 per unit to between $20 and $30 per unit in the span of a couple years.

At the same time this was happening Fairchild's original founders began leaving the company. Surrounded by numerous public and private universities, a developed infrastructure, and a vibrant economy, the Fairchild founders stayed in the region and built their own companies. Funded by government contracts, Fairchild was able to become a technological seedpod that spawned hundreds of new firms (often referred to as "Fairchildren") that built what we know today as the Silicon Valley.

Because of the educational and infrastructure investments made by successive California governors beforehand, and because of the successes of home grown genius like Apples' Steve Jobs, the Silicon Valley became a global Mecca for people with both creative minds and money.

People with real talent and lots of cash flocked to the Silicon Valley, hoping to participate in, and to build off of, the "social structure of innovation" (created by high tech firms, research universities, infrastructure, an open culture, numerous venture capital sources, and specialized support services) that is unique to the region.

Today, at any given time the Silicon Valley regularly attracts between 40 to 50 percent of all venture capital invested in the United States.

IMPACT OF THE THIRD INDUSTRIAL REVOLUTION
I can still remember the first time I saw automated gas stations early in the 1980s. There was no need for an island attendant (a job I once held). Since then, every major retail center - and not just gas stations - has automated checkout counters, where one person watches over four or more counters. Big e-tailers like Amazon has robots stocking and picking products in warehouses. This has been going on for some time now. UPS and FedEx are already working with air drones to make deliveries.

In the area of animal husbandry, technology has helped reduce the time necessary to grow one ready for market chicken in Mexico from two and one-half man hours in the 1960s to just fourteen minutes by the end of the 20th century. During the same period, the amount of time necessary to grow a 4 pound chicken was reduced from nine and one-half weeks to just 6 weeks. Similarly, where it once required two people to manage a single hatchery (early 1980s), one individual can now take care of ten automated hatcheries.

The point here is that the Third Industrial Revolution is increasing productivity, but doing so in a way where it's not entirely clear that the demand for labor - or wage level increases - will continue to grow. This is a key issue since increases in productivity and wage hikes have been the backbone behind the promise of markets since the time of the American Revolution.

Put more simply - as I pointed out in my book (32-35) - wealth creation with no "trickle down" for ordinary laborers makes work little more than drudgery and, quite frankly, undermines the point of capitalism. The moral justification of capitalism is betrayed in the process.

The fact that this has been happening for the better part of 30 years raises big questions about the impact and future direction of the Third Industrial Revolution. This is precisely what Nouriel Roubini was concerned about when he discussed the downside to the Third Industrial Revolution.

I'll discuss these issues, and more, in "Rise of the Machines (Part II) ..." by New Year's Eve.

- Mark

UPDATE: A bit late, but you can now access "Rise of the Machines (Part II): Economic Fallout From the Third Industrial Revolution, Accelerated By Government Policies" by clicking here.