In the market, the question we ask ourselves time and again is ‘where will growth come from?’

Digitisation is creating a second economy that’s vast, automatic, and invisible, thereby bringing the biggest change since the Industrial Revolution.

A read through the annual report of Telstra gives us a number of clear signposts. Right there on page 4 are the following comments in the Chairman’s address; I have put the sentence that resonates most with me in bold letters so it is clear.

“Moving now to your company’s strategic outlook.

“At last year’s AGM, I said we were on the cusp of a new connectivity era, where almost everything and everyone will be connected by smart networks.

“If anything, that connectivity trend has accelerated, and the industry transition I spoke of last AGM is well underway.

“Globally, consumers are now buying more smart phones and tablets than personal computers.

“Australia is one of the most penetrated smartphone markets in the world. This penetration is creating demand for new services, such as mobile payments and online shopping.

“As a result, data traffic on our networks doubled in 2011, and is projected to increase 30-fold within five years and 1000-fold within 10 years.”

Now that is where growth comes from.

Which businesses and companies will benefit from this shift? Which companies and businesses will suffer as a result?

In the October edition of McKinsey’s Quarterly, an article by W. Brian Arthur titled “The second economy” gives us more to absorb.

In 1850, a decade before the Civil War, the United States’ economy was small – it wasn’t much bigger than Italy’s. Forty years later, it was the largest economy in the world. What happened in between were the railroads. They linked the east of the country to the west, and the interior to both. They gave access to the east’s industrial goods; they made possible economies of scale; they stimulated steel and manufacturing – and the economy was never the same.

Deep changes like this are not unusual. Every so often – every 60 years or so – a body of technology comes along and over several decades, quietly, almost unnoticeably, transforms the economy: it brings new social classes to the fore and creates a different world for business. Can such a transformation – deep and slow and silent – be happening today?

Digitisation is creating a second economy.

We could look for one in the genetic technologies, or in nanotech, but their time hasn’t fully come. But I want to argue that something deep is going on with information technology, something that goes well beyond the use of computers, social media, and commerce on the internet.

Business processes that once took place among human beings are now being executed electronically. They are taking place in an unseen domain that is strictly digital. On the surface, this shift doesn’t seem particularly consequential – it’s almost something we take for granted. But I believe it is causing a revolution no less important and dramatic than that of the railroads. It is quietly creating a second economy, a digital one.

Let me begin with two examples. Twenty years ago, if you went into an airport you would walk up to a counter and present paper tickets to a human being. That person would register you on a computer, notify the flight you’d arrived, and check your luggage in. All this was done by humans.

Today, you walk into an airport and look for a machine. You put in a frequent-flier card or credit card, and it takes just three or four seconds to get back a boarding pass, receipt, and luggage tag. What interests me is what happens in those three or four seconds.

The moment the card goes in, you are starting a huge conversation conducted entirely among machines. Once your name is recognised, computers are checking your flight status with the airlines, your past travel history, your name with the TSA1 (and possibly also with the National Security Agency). They are checking your seat choice, your frequent-flier status, and your access to lounges. This unseen, underground conversation is happening among multiple servers talking to other servers, talking to satellites that are talking to computers (possibly in London, where you’re going), and checking with passport control, with foreign immigration, with ongoing connecting flights.

And to make sure the aircraft’s weight distribution is fine, the machines are also starting to adjust the passenger count and seating according to whether the fuselage is loaded more heavily at the front or back.

These large and fairly complicated conversations that you’ve triggered occur entirely among things remotely talking to other things: servers, switches, routers, and other Internet and telecommunications devices, updating and shuttling information back and forth. All of this occurs in the few seconds it takes to get your boarding pass back. And even after that happens, if you could see these conversations as flashing lights, they’d still be flashing all over the country for some time, perhaps talking to the flight controllers – starting to say that the flight’s getting ready for departure and to prepare for that.

Now consider a second example, from supply chain management. Twenty years ago, if you were shipping freight through Rotterdam into the centre of Europe, people with clipboards would be registering arrival, checking manifests, filling out paperwork, and telephoning forward destinations to let other people know. Now such shipments go through an RFID2 portal where they are scanned, digitally captured, and automatically dispatched. The RFID portal is in conversation digitally with the originating shipper, other depots, other suppliers, and destinations along the route, all keeping track, keeping control, and reconfiguring routing if necessary to optimize things along the way. What used to be done by humans is now executed as a series of conversations among remotely located servers.

In both these examples, and all across economies in the developed world, processes in the physical economy are being entered into the digital economy, where they are ‘speaking to’ other processes in the digital economy, in a constant conversation among multiple servers and multiple semi-intelligent nodes that are updating things, querying things, checking things off, readjusting things, and eventually connecting back with processes and humans in the physical economy.

So we can say that another economy – a second economy – of all of these digitised business processes conversing, executing, and triggering further actions is silently forming alongside the physical economy.

Like aspen root systems

If I were to look for adjectives to describe this second economy, I’d say it is vast, silent, connected, unseen, and autonomous (meaning that human beings may design it but are not directly involved in running it). It is remotely executing and global, always on, and endlessly configurable.

It is concurrent – a great computer expression – which means that everything happens in parallel. It is self-configuring, meaning it constantly reconfigures itself on the fly, and increasingly it is also self-organising, self-architecting, and self-healing.

These last descriptors sound biological – and they are. In fact, I’m beginning to think of this second economy, which is under the surface of the physical economy, as a huge interconnected root system, very much like the root system for aspen trees. For every acre of aspen trees above the ground, there’s about ten miles of roots underneath, all interconnected with one another, ‘communicating’ with each other.

The metaphor isn’t perfect: this emerging second-economy root system is more complicated than any aspen system, since it’s also making new connections and new configurations on the fly. But the aspen metaphor is useful for capturing the reality that the observable physical world of aspen trees hides an unseen underground root system just as large or even larger.

How large is the unseen second economy?

In about two decades the digital economy will reach the same size as the physical economy. It’s as if there will be another American economy anchored off San Francisco (or, more in keeping with my metaphor, slipped in underneath the original economy) and growing all the while.

How fast is the second economy growing?

Here’s a very rough estimate. Since 1995, when digitisation really started to kick in, labor productivity (output per hours worked) in the United States has grown at some 2.5 to three per cent annually, with ups and downs along the way. No one knows precisely how much of this growth is a result of the uses of information technology (some economists think that standard measurements underestimate this); but pretty good studies assign some 65 to 100 per cent of productivity growth to digitisation.

Assume, then, that in the long term the second economy will be responsible for roughly a 2.4 per cent annual increase in the productivity of the overall economy. If we hold the labor force constant, this means output grows at this rate, too. An economy that grows at 2.4 per cent doubles every 30 years; so if things continue, in 2025 the second economy will be as large as the 1995 physical economy.

The precise figures here can be disputed, but that misses the point. What’s important is that the second economy is not a small add-on to the physical economy.

In two to three decades, it will surpass the physical economy in size.

Important information: This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. For this reason, any individual should, before acting, consider the appropriateness of the information, having regard to the individual’s objectives, financial situation and needs and, if necessary, seek appropriate professional advice.