These days people trying to predict when the tech bubble will burst tend to argue it will happen when 1) tech companies run out of all the money they’ve raised or 2) the global economy worsens.
On the first, I think it is important to consider some differences from the last tech boom. By and large, today, companies raising huge amounts of money aren’t locked in wars of attrition, spending cash in ways that force down returns for everyone. They are, by my estimation, either sitting on the cash or trying to spend in fundamentally accretive ways. I think very few companies are playing the bubble 1.0 negative gross margin game which Fred Wilson recently warned about.
On the second—the idea that the bubble will pop when the global economy takes a turn for the worst— I increasingly believe the opposite is true. So long as everything else is in a downturn, tech will remain strong. And it’s only when other areas of the economy see faster growth that tech will simmer down.
The fundamental issue is the lack of areas in which to put money to work. That’s happening for three reasons.
The first, and most obvious, is that most of the global economy outside the U.S. is in very poor shape or very difficult to invest in. Europe is a mess. The emerging markets haven’t produced a real return in ages. If you look at the BRIC countries, you see one failing economy, one borderline-rouge-state, and two countries with spotty information and access to foreign investors. If European banks are considering negative interest rates, it is clearly a sign that investing capital abroad isn’t looking like the rosiest picture.
Second, inside the U.S., we just don’t seem to have very many large-scale projects to soak up a lot of capital and provide a good return. That’s because, locally and nationally, the government is shut down.
For generations we had railroads, highways and fiber to build. We also had big armies and wars to fund.
Sadly, the need for large-scale investment and infrastructure projects around education, health, and the environment is massive. But with today’s political gridlock, nothing can get approved or move fast enough that is big enough for dollars to be actively invested against.
The government doesn’t want our money to do big valuable things, and the government often gets in the way of private firms and citizens who want to do the biggest things on their own.
This isn’t, of course, just a national issue. Look at San Francisco and all the red-tape and politics around construction. If none of that existed I suspect a lot more money would be flowing into San Francisco real-estate and tech valuations might actually be relatively lower.
The third culprit is best introduced by Kanye West in his song “Clique.”
You know white people get money, don’t spend it;
Or maybe they get money, buy a business.
Spending isn’t going to save the economy. As wealth gets more concentrated, and the wealthy engage less in conspicuous consumption, there isn’t as much opportunity for spending to take the place of investing.
As the Gini coefficient in the U.S. rises, more capital pools up with a small number of people who can’t possibly spend it at the same rate as could a larger group of a middle class. After all, a Tesla is only three to four times more expensive than a Toyota Camry.
At the same time, technology has dramatically driven down the cost of living well. Uber gets everyone a driver at a fraction of the cost; Airbnb makes owning vacation homes less appealing. Instagram and social media create frameworks where people can get social currency by showing off experiences rather than buying things. The upshot is we can’t spend our way to stronger growth.
A Bubble of Last Resort
So, money isn’t scarce, and it has nowhere to go and be productive. Enter technology companies.
The irony in this, of course, is that technology companies really don’t have very meaningful capital requirements, so they are an unlikely place for capital to get deployed. However, technology companies do have growth and theoretical future returns to the people who build and own them. But, if there is a basically infinite amount of roving capital looking for returns, it isn’t such a bad idea for that capital to flow into tech.
In this respect, climbing valuations are really just more a commentary on less valuable capital than the value of technology companies themselves. The scarce asset is growth; the plentiful commodity is capital.
And so, to me, this is a very different type of bubble. It isn’t driven by a small number of players making risky credit bets at a national or global level. It isn’t driven by over-exuberance or dreams of infinite upside. Instead, it is a bubble of last resort, when everyone is being reasonably rational and eyes-wide-open about the reality of the situation.
I don’t see this situation resolving itself anytime soon. If the U.S. government figures out how to move forward and facilitate directly—or indirectly - some investment opportunities that would be good for the world and that need capital, that could ease the valley-bubble. Europe resolving its problems or China becoming easier to invest in would help as well.
But my crazy bet is that the interesting property here fundamentally is that the “tech bubble” will subside when things globally get better not worse.