There is some rumbling (here, here) regarding the formation of another tech bubble, this time riding on the so-called “Web 2.0,” i.e. social media. To that, I’ll attest that over the past year, there has been a steady stream of stealth startups of this sort arriving seemingly out of nowhere and hiring all comers.

What to make of this? Is social media any more viable than e-commerce of the first dot-com bubble?

This is difficult to answer. Both technology eras rested on the assumption of consumption. E-commerce startups of the 1990s figured that the ease of online shopping would convert offline shoppers to online ones. Of course many didn’t make a profit as the conversion didn’t materialize to the scale that they projected (for the benefit of VC’s — I doubt they really believed in it). Social media startups of the present believe that better preference information driving targeted advertising would do that offline-to-online conversion better. Whether that will materialize is equally dubious.

There is a difference, however. This time, the risk is diffused as abstract online properties are monetized piece by piece. Some of the risk, for example, is offloaded onto advertisers, as they pay upfront for preference information in exchange for clicks, whether or not they generate increased sales. The latter question is left to the competing merchants to sort out.

The value chain is a lot more complicated this time, but ultimately will it be profitable? Ostensibly, there is an information trade on the front-end: content for personal information. We know that content has value since you used to pay for it; now it’s “free.” The cost went somewhere. Was it paid in personal information? But personal information should have no value, unless they generate additional consumption, and there is no evidence of that. One theory is that the cost of content (i.e. the cost of ads) went into generic business expenses. If your competitors are placing ads, you place them, too. Eventually an equilibrium is reached whereby some items (e.g. brand-name items) become more expensive by the cost of “free” content they support at the other end, and the people viewing those ads are not deterred by this invisible tax since they are convinced of the value proposition posited by the ads. In such a world, the startups survive. If, however, the amount of “free” content becomes too much for consumption to support, then we have another bubble on our hands.