THE SUBSTITUTION OF INFORMATION TECHNOLOGY FOR OTHER FACTORS OF PRODUCTION - A FIRM LEVEL ANALYSIS

Fueled by its constant technological and price improvements, informati on technology (IT) is displacing other inputs in the production of goo ds and services. By 1994, IT accounts for over 15% of fixed investment s by the U.S. private sector, and the ratio of new IT investments to l abor costs is approaching 5% (1990 dollar basis). The ability to take advantage of improvements in IT is determined in part by the substitut ability of IT for other factors of production. This paper builds on th e empirical framework of Brynjolfsson and Hitt (1995) and extends it t o jointly estimate output and substitution elasticities using the CES- translog production function. Our primary source of IT-related data is the IDG/Computerworld annual survey data on IS spending by large U.S. firms, for the period 1988 to 1992, previously analyzed by Brynjolfss on and Hitt (1995, 1996) and Lichtenberg (1995). A key result is that IT capital is a net substitute for both ordinary capital and labor, su ggesting that the factor share of IT in production will grow to more s ignificant levels over time. We confirm earlier findings of positive r eturns to IT investment for this data set. Further, we find excess ret urns on IT investment relative to labor input and some evidence of exc ess returns relative to ordinary capital. Taken together, these result s shed new light on the productivity paradox of IT and on the growth o f information intensity across the economy as firms take advantage of the continuing improvements in IT.