IT-led deflation: Moore's Law ... or Murphy's?

[Rob Schaap <bantam@xxxxxxxxxxxxxxxx>]

*The Industry Standard* is doing it tough just now, but consoles itself with
the thought they won't be alone in this.  The following rings pretty
convincing, I reckon.

Cheers,
Rob.

OPINION: ERIC J. SAVITZ
Price Choppers
http://www.thestandard.com/article/0,1902,28832,00.html

In case the tech sector doesn?t have enough problems, here's another one: The
recovery, when it comes, could be undone by deflation.
Aug 29 2001 06:01 AM PDT

                           OPINION One of the most shocking pieces of
technology news in recent weeks was the word that Intel plans to slash prices
on its Pentium IV microprocessors by 50 percent or more ? dropping what Lehman
chip analyst Dan Niles described as a "price bomb."

                           Now, there?s nothing new about declining chip
prices. The steady ratcheting down of computing costs over time is at the
heart of Moore?s Law ? over time, the cost of a given amount of computing
power becomes increasingly small. More precisely, chip processing speed
doubles about every 18 months.

                           But Intel?s move, apparently designed to knock the
wind out of rival Advanced Micro Devices and to stimulate PC demand, smacks of
something more insidious. In short, while Moore?s Law continues to operate, in
some very important ways it may not matter as much as it used to. And
deflationary forces like those in the processor business could go a long way
toward muffling the tech recovery - whenever it finally shows up.

                           At least, that?s the thinking at the Precursor
Group, a Washington-based investment boutique. Analysts Scott Cleland and Bill
Whyman assert in a recent report that investors have failed to realize that
"serious deflationary pressures" could undercut the ability of the technology
and telecom sectors to grow rapidly when the recovery arrives. Writes
Precursor: "The sector?s fundamental potential for growth is eroding."

                           Certainly, a reduced impact from Moore?s Law would
have a chilling effect. As Precursor points out, Moore?s Law may have been the
single biggest driver of the tech boom over the last two decades. But Cleland
and Whyman contend that the importance of Moore?s Law to hardware companies ?
and to investors ? has been reduced by the failure of the software business to
create the kind of applications that require the power state-of-the-art
processors can offer.

                           "In the last year, hardware performance for the
first time has dramatically outpaced software?s ability to use it," they
write. The result? "The faster-growth PC replacement cycle of the past is
over."

                           The combination of excess processing power and the
commoditization of memory and data storage, Precursor says, means "longer
replacement cycles, reduced demand and deflationary price traction" for the PC
business. In short, the analysts conclude that "Moore?s law may have lost much
of its investment traction."

                           Alas, that?s not the end of Precursor?s deflation
thesis. The firm sees further pressure coming from the glut of fiber capacity,
asserting that new demand is "way overestimated" given that no killer app
requires fiber to the home. As they point out, DSL and cable modems certainly
don?t require it. Deflationary forces in telecom, Cleland says, have been
exacerbated by both telecom legislation and FCC policy, which have encouraged
competition, added costs and constricted the industry?s ability to raise
prices.

                           Cleland and Whyman believe that conditions in
microprocessors and communications services share the same issue: The market
simply can?t absorb the existing capabilities of either technology. "Fiber and
silicon technology is now flooding the market with bandwidth and processing
speed in market segments that can?t put it to full use, which deflates prices
and slow growth."

                           Precursor?s analysts advise tech investors to
weight their portfolios toward companies that stand to benefit from declining
hardware and equipment prices. The firm remains bullish on the "access"
business, in particular the Baby Bells and the cable systems companies. The
analysts are also favorably inclined toward enterprise software companies, as
well as on computer services and consulting firms. But they recommend avoiding
the deflation-vulnerable
hardware companies. Those stocks, Precursor warns, "could prove to be a
particularly thin base for a growth portfolio."

                           Consider yourself warned.